Oracle's chief executive plans to take his accounting software company public in a September auction. Critics worry about his role
Make way for Larry Ellison's other company. NetSuite, begun in 1998 with a slice of the personal fortune of the Oracle (ORCL) chief executive, is readying a long-delayed initial public offering.
NetSuite, a seller of accounting software, plans to raise $75 million from the sale, according to documents filed July 2 with the Securities & Exchange Commission. The company will sell at least 10% of itself in a transaction that would value NetSuite at $750 million, BusinessWeek has learned. Ellison, worth an estimated $21.5 billion, has invested about $93 million in NetSuite and controls about 74% of the company.
Credit Suisse (CS) will lead the offering, with W.R. Hambrecht as co-manager. NetSuite's sale would mark one of the few software IPOs of the year and may provide a test case for auction-style IPOs three years after Google's (GOOG) high-profile debut. The IPO would value Ellison's share at more than a half-billion dollars and revives concerns over his prominence at a potential Oracle rival.
The Auction Approach
Of an estimated 17 tech companies that went public during the first half of 2007, only four were software vendors. Factor in the nearly three years NetSuite has been promising to offer shares to the public, and it's apparent why investors are eager for a cut.
Those would-be stockholders will get a chance to set the price for the stock through an auction, a process that in theory could yield a higher price than a traditional offering where banks sell large chunks of stock to mutual fund companies and hedge funds. The conventional approach ensures stock ends up in the hands of long-term investors, but risks underpricing shares. In an auction, NetSuite would be able to solicit bids in advance and offer shares at a price close to what the market will demand. "The argument is you'll likely leave less money on the table," says Lise Buyer, principal of IPO advisory firm Class V Group, and a former Google executive who helped lead the company through its IPO.
But Google's offering raised hackles among bankers—including Credit Suisse—who wanted to place more shares with their clients. "With the exception of W.R. Hambrecht, none of the underwriters wanted the auction viewed as a big success," says Jay Ritter, a finance professor and IPO expert at the University of Florida who advised Google on its watershed 2004 offering.
Long Time Coming
To avoid a rerun, NetSuite has reduced the number of banks involved. Google listed seven investment banks on the cover of its prospectus, including Morgan Stanley (MS) and Credit Suisse, and involved nearly 30 in the final process. "It's always tougher when you're not fully in charge," says one person with knowledge of NetSuite's auction. During the bidding for shares—expected in September—Credit Suisse and W.R. Hambrecht clients will be able to place bids through those companies, while retail investors will bid on NetSuite stock through E-Trade Financial (ETFC), according to people familiar with the process.
NetSuite's IPO has been a long time coming. The company got its start as NetLedger when co-founder, Chairman, and Chief Technology Officer Evan Goldberg, who'd spent eight years at Oracle as a high-ranking software engineer, convinced Ellison to bankroll his venture, which would sell accounting software to small companies online. Around the same time, Ellison helped former Oracle salesman Marc Benioff to start Salesforce.com (CRM). Ellison owns about 4.5 million shares of Salesforce.com, worth about $193 million based on the stock's June 29 closing price of $42.86.
NetSuite has had success convincing small and midsize companies—including the Oakland A's baseball team, whose general manager, Billy Beane, sits on Netsuite's board—to use its accounting, sales management, and e-commerce software. Users pay monthly charges for software that's delivered through a Web browser, avoiding the hassles of installing the code. "It's one of those companies that everybody who uses the product loves it," says Bruce Richardson, chief research officer at consulting company AMR Research.
Downside of Concentrated Ownership
Executives at NetSuite broached the prospect of an IPO in 2005 and 2006. Then, in December, 2006, the company again said its filing was around the corner. Chief Executive Zach Nelson and his staff held meetings with bankers in New York in fall 2006, then in November met with a few investment banks at their San Mateo (Calif.) offices (see BusinessWeek.com, 12/11/06, "NetSuite Gets Ready for Its Close-Up").
Now that the rocket's finally leaving the launch pad, the question is how high it will go—and how much of a help or hindrance Ellison is. His unusually large stake could cause NetSuite to trade lower than it otherwise would, since fewer shares may be available, making it tougher for funds to move in and out of investment positions. "There's definitely a liquidity discount any time there's concentrated ownership," says one longtime software industry investor.
NetSuite booked $67.2 million in 2006 sales but had a loss of $23.4 million. It's on track for more than $100 million in sales in 2007, and expects to turn its first profit in the fourth quarter, according to industry sources. Salesforce, another online software company, posted nearly a half-billion dollars in sales for its fiscal year that ended in February, and expects at least $710 million in revenue for the fiscal year that ends in January, 2008. The so-called "on-demand" market for online business software also includes RightNow Technologies (RNOW), which has penetrated larger accounts than NetSuite has been able to, and accounting software maker Intacct, which closed a $14 million round of funding on June 27.
Need to Go Upmarket
Perhaps most notably, German software company SAP (SAP), Oracle's No. 1 competitor in the hotly contested market for business application software, is investing heavily to penetrate the back-office software market for small and midsize businesses. A newly flush NetSuite could let Ellison put another thorn in SAP's side (see BusinessWeek.com, 4/17/06, "The On-Demand Software Scrum").
But NetSuite has struggled with the productivity of its sales staff, which hasn't offset its costs with bigger deals and faster closes as it has expanded, according to one venture capitalist with knowledge of the company. "They've hit the low-hanging fruit of the lower end of the small and medium-sized business market, and then it got harder and more expensive to reach more of the smaller guys, or go upmarket and hit the bigger guys," he says. Another person familiar with the company says NetSuite has essentially halted expanding its sales team since early 2006 to fix the problem.
Investors and analysts will watch NetSuite closely for clues on the role Ellison will play, and whether his control of an Oracle competitor (both sell accounting software and sales management software) poses a conflict of interest. "As long as Larry Ellison has a controlling stake, the company is going to do whatever Ellison wants, even if other investors don't like the strategy," says Ritter, the University of Florida finance professor. Oracle declined to comment.
Lots of IPO Company
Several years ago, Oracle licensed its name to NetSuite for use in its products, but the arrangement fell apart after NetSuite beat Oracle on some key deals. In January, NetSuite auditor Deloitte & Touche recused itself from auditing the company's books because it was also Oracle's accounting firm. NetSuite's auditor is now KPMG International.
Assuming the IPO goes off as planned, NetSuite shares will debut in a public market that has been warming to debuts of tech issues (see BusinessWeek.com, 1/8/07, "The Return of the Tech IPO"). During the first half of 2007, the 17 tech firms that went public raised $2.4 billion, according to market researcher Dow Jones VentureOne. By comparison, 20 tech-industry IPOs raised $1.95 billion during all of 2006. The pipeline is filling up, too. EMC (EMC) unit VMware filed its S-1 in April. Open-source software company MySQL could file later in 2007 (see BusinessWeek.com, 6/26/07, "The Worth of Open Source? Open Question"). And social-networking site LinkedIn has hired a chief financial officer and other executives in preparation for a public offering down the road.
"You're seeing a higher-quality company getting ready to go public on the tech market now," says Eric Gebaide, managing director at investment bank Innovation Advisors. NetSuite is finally poised to join those ranks, if it can navigate the shoals of an unconventional offering and keep Ellison's critics at bay.