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Technology is ubiquitous in today’s global economy. It underlies business modernization in every industry, making the software sector naturally diverse and resilient. While M&A volumes in the European software sector moderated in comparison to record 2021 levels, the sector and its M&A outlook remain strong.

In this report, senior bankers from the Harris Williams Technology Group highlight key trends and market dynamics impacting M&A activity and valuations in the European software sector in 2023.

The Fundamentals Remain Intact

Macroeconomic shifts continued to influence the European software market in the second half of 2022. Factors such as economic slowdowns, inflationary pressures, rising interest rates, and the ongoing Ukraine conflict impacted both the market and the sector’s M&A activity. Despite these headwinds, fundamental drivers of M&A remain strong, with software essential to controlling costs and modernizing company operations.

While public market valuations continued to decline in the latter half of 2022, high-quality assets still commanded a premium valuation in the private markets. Noticeably, as 2022 progressed, investors raised the bar for what constitutes “quality.” Specifically, profitability is increasingly important for asset valuation and as a threshold for consideration. Likewise, assets that can demonstrate they have performed well in a previous down market are favored by both private equity and strategic investors.

Just as buyers are more selective in the current environment, so are lenders. Raising new capital was more challenging in late 2022, and debt market activity dropped. This trend is likely to continue as investment committees and lenders apply more scrutiny to opportunities, focusing on profitability and the ability to service debt payment as the cost of capital increases.

The combination of market dynamics at play in the second half of 2022 led to an increase in strategic investors’ share of European software M&A. Their ready access to capital for tuck-in acquisitions was an advantage as borrowing became more expensive and difficult. Private equity’s adoption of a more cautious, risk-averse investment profile slowed their investment volume, particularly in new platforms, which can be perceived as higher risk.

Looking Forward

In the first quarter of 2023, strong cross-industry demand for European software companies remains robust, which should buoy the sector through market volatility and continued headwinds. Investors are looking to put capital to work in the best European software companies. In particular, private equity deal activity is expected to pick up, given that firms continue to have substantial dry powder to deploy.

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