Cisco/Splunk: M&A deal could signal start of rate acceptance

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Corporate America is finally ready to move forward. The initial public offering market has sputtered into life this month with the listings of Arm, Instacart and Klaviyo. On Thursday, a blockbuster M&A deal was added to the mix, with Silicon Valley mainstay Cisco Systems acquiring cyber security software company Splunk for $28bn in cash.

Chief executives contemplating rising rates appear to have cycled through the stages of grief from fear to acceptance. Valuations have reset and sellers are acknowledging that the heady numbers of 2021 no longer apply.

It is a painful reckoning. But those who come to terms with it can gain first-mover advantage.

Take Cisco. The router and networking equipment maker is trying to refashion itself as a software and recurring revenue player. The pivot is a challenge. Revenues benefited from higher IT spend and the shares gained from a broad tech rally. But Cisco’s share price is only up a tenth in the past five years. Large vendor rivals Oracle and Microsoft have more than doubled in that time.

Security software has been a priority growth area for Cisco. Splunk is therefore an intriguing target. The company went public in 2012 in a hyped IPO. It has traded between 10 and 20 times revenues over the years.

But repeatedly missed profit targets have hammered its valuation. It eventually became the target of activist fund Starboard Value, whose analysis showed that Splunk’s recent enterprise value to annual revenue multiple had dropped to under five times.

Cisco, with its premium buyout price, is paying seven times. This is a figure that once seemed inconceivable for a SaaS software company. Splunk’s performance has picked up this year and shares have rallied 40 per cent, pre-buyout. Notably, its free cash flow profit margin is forecast to hit around 20 per cent, double its lows.   

Cisco, whose enterprise value is $200bn, only saw its shares fall around 4 per cent on Thursday. This is relatively modest for such a large transaction. It says the Splunk deal will quickly be accretive to cash flow and profits and claims existing customers will appreciate a broader product offering.

The deal could trigger copycat moves. It is time for the tech sector to acknowledge that the halcyon days of big valuations and low borrowing costs are over.