Transaction Trending: Venture Capital in Payments
Venture capital provides to new startups hoping to bring a product to market the critical business network access, resources and guidance that is necessary for success. This is particularly true — and important — in the payments industry. As new technologies like biometrics, APIs, blockchain and others shape the next-gen payments experience, and as the pace of mergers, acquisitions and partnership grows, the payments industry and venture capital will remain symbiotically connected.
Dan Rosen, Partner at Silicon Valley-based Commerce Ventures, and Greg Cohen, Chief Operating Officer at Sage Payment Solutions, talked to Transaction Trends about the latest in venture investments in payments technology.
ETA: What do investors find most attractive in payments right now?
Greg Cohen (GC): Differentiation in a Growth Market continues to be the most valuable assets in the payments space. Organizations that have built scalable differentiated solutions and channels that have proven they can defend that uniqueness have been rewarded handsomely. Obviously, many of the integrated, ecommerce and vertically focused players that saw early success have seen these types of superior valuations.
Dan Rosen (DR): These days, traditional payments investors seem to be drawn to the following areas: commercial payment (e.g. Bill.com, AvidXchange), cross border payment processing (e.g. Transferwise, Veem), and Software-integrated Payment Enablement (e.g. CardConnect, WePay). Other areas of interest include Distributed Ledger Technology (DLT) as applied to cash and value settlement, but few of the traditional payment investors have placed bets in this area yet.
ETA: What are those key differentiators that catch investors’ attention today?
GC: Key differentiation in the highly competitive payments space tends to gravitate towards vertical specialization. Paymetric and CardConnect had deep integrations and partnerships with ERP systems. Stripe and Braintree have expertise with the mobile developer market. Mercury Payments specialized in the restaurant POS system market while Clover and Square focused on SMB Restaurant and Retail. These are just a few examples of highly focused scale businesses commanded premium multiples from investors.
ETA: How do you seeing that changing over time?
DR: There appears to be a long-term trend towards integrated payments, so I don’t envision that area becoming less exciting in the near or medium-term. Similarly, commercial payments has a lot of opportunity to compete with the use of checks and traditional money movement flows, such as wire and ACH. Increasingly this involves using virtual card issuance as part of A/P which creates an interchange revenue opportunity for the platform operator and bill payer. I worry that this will eventually be challenging to sustain as suppliers push for lower cost of payment acceptance, but that is probably years away. Over time, I also see the DLT-related investments becoming more mainstream, but I’m not sure if they will be made by traditional VCs through standard equity structures or if the token sale paradigm will take hold and be the funding mechanism of the future.
GC: The segments or technologies may change over time but the same principals hold true. As the payments business continues to evolve I would expect software differentiation and vertical specialization (both product and channel) to be valued. In addition, businesses that enable legacy scale organizations to compete in the new world of commerce will be a new crop of highly valued assets. Organizations that enable new business models, open new revenue streams and fortify organizations infrastructure will command premiums.
ETA: What does the rapid pace of mergers and acquisitions in our industry mean for startups and venture capitalists?
GC: With every acquisition comes new opportunities. Talent and occasionally customers are often left behind in the M&A process. Start-ups and investors have the opportunity to grab top players and fill organizational needs. In addition, certain clients (merchants as well as resellers) often see service degradation during the integration process creating opportunities for nimble competitors. For product companies, opportunities are created for cross-sell to much larger customer bases. Finally, when it comes to fundraising the current multiples make for great comparisons (“comps”) when talking to investors or LPs.
DR: Its very good for startups because consolidation almost always leaves some portion of customers underserved and unhappy as the newly combined organizations reduce cost to show synergies. In addition, M&A in the space provides liquidity to private equity and venture capital investors, which often fuels renewed investment interest in the category. The only drawback is that the minimum scale required to compete for core payment processing is basically becoming unattainable for a fledgeling startup, so the opportunities for them look different than they did when BrainTree, Stripe and WePay got started.
ETA: What advice would you offer to start-ups who are looking to get acquired?
DR: Don’t wait to get to know the acquirers until you want to be acquired. Develop a relationship with the business leaders of key potential acquirers and their corporate development arms far in advance of M&A intent. Moreover, the best outcomes are when startups are bought NOT sold. Focus on building your business and scaling as a first priority. If you need to find an exit, think very carefully about where you fit and to whom your business is important. Don’t waste time boiling the ocean and speaking with anyone who will talk…the likely acquirer group is easily defined, so spend the time to identify them.
GC: Don’t build a business with the goal of getting acquired. Start a business with the goal of creating a great business with a defendable value proposition that clients will fall in love with. If you can scale that vision appropriately, you will have no problem getting acquired.