Top 12 Technology Issues for Private Equity due-diligence valuation.

Experience has shown that a number of negative patterns, affect the investment, either at the proposal or during investment life-cycle...

Assembling all the facts for technology organisation investment is challenging. Putting to one side the financial and legal parts to due-diligence, there are some traits of technology organisations which conform to regular patterns. Some patterns are good, some are negative. Due-diligence should identify these “Anti-patterns”, and help spot "Red flags" or concerns. Evaluating the whole, allows investors to understand and decide what is relevant, what can be fixed in the short term, and which technology demands are longer term. I.e. a three – five year investment cycle. 

Here are a list of anti-patterns of technology due-diligence:

1.      The Anti-Pattern of scale.

If the leaders of an organisation are unable to state clearly their weakest link or bottleneck, they are unlikely to be able to scale. Period..

All technology organisations must be able to scale. It’s the one demand all investors shout. However, the answer is generally “yes, but”. Hardly ever does a potential organisation know what the “cost per customer” is or “What is the cost of change across customers”. CFOs talk about strategic pricing yet are disabled when CTOs can’t support granular accounting practices. It’s only with the recent use of external email services such as Microsoft's Office 365 and Google's G-Suite that give them an actual cost of email for a member of staff.

An example of this bottleneck is the “on-boarding process”:

The “on-boarding process” is the successful act of setting up a customer to use the product or service for the first time.

Rarely is the cost of “on-boarding a customer” understood, defined, or the processes systemised.

The ability to configure any customer makes a very complicated process and creates a “Throw it over the fence” mentality between technical and delivery teams. Rarely is this process automated or aligned to client archetypes (models of client demographics, usage, requirements etc.).

This significantly reduces the organisations ability to scale.

2.      Shiny syndrome.

This syndrome is about a triumph of style over substance with little or no original thought. The results are usually presented with great polish but overall fail to convince the intended audience.

Shiny syndrome is typically found within an organisation in its growth phase (see Communication Matrix).

Cloud is a great example of shiny syndrome where the value is not expressed explicitly.

This phase typically has a copy and paste mentality. (a cargo cult culture). Coveting other people’s ideas is normal and often organisation's have difficulty diagnosing problems. 

An organisations inability to justify technology investment is the key negative issue.

3.      Poor strategy.

A football manager stating “let’s win” is not a strategy, neither is stating your growth target.

Poor strategy can normally be described as either “fluff”, “failure to face the challenge”, “mistaking goals for a strategy” or ”just bad strategic objectives”.

Good strategy is hard to do. Poor strategy is often the avoidance of hard work. The result of a template or simply the newest of latest thought (Shiny syndrome).

Good strategy is unexpected, powerful, it magnifies force and creates an unfair advantage.

4.      Failure to prioritise.

If the C-Suite fail to prioritise, management and the shop floor are left to create their own path.

Management over time may start to act as a broker rather than a manager. Having to report back and forth between leadership and the shop floor. Part of delivering less value, priority setting is delegated down to operational areas who like to take ownership. This is fine if it is intended, but really that is an unintended consequence and does not represent good management practice as priorities are being set without a directive. 

There is a need to constantly prioritise across the organisation. When the C-suite set good direction and communicate clearly, everyone is able to prioritise their work, technology, and processes and consequential delegation.

5.      Using an outdated vocabulary.

The .com era had a different vocabulary to now. The language an organisation uses, indicates their era, how they approach challenges and what they don’t know.

Part of being good at due-diligence work requires good listening skills. What people say, especially within the technology arena, guides one to know which era a person is from. Analysing their vocabulary, allows one to accurately date their era. This indicates what their legacy is and where their knowledge is limited. As an example the words “Disaster recovery” are circa year 2000 and people using these words typically don’t understand much about Netflix or Amazon culture and often invest in older ways of working.

The use of the words has declined in favour of “continuity” and/or “resilience” and testing of continuity is a more frequent test. Typically daily/weekly rather than the old annual operational event of moving staff to another building.

Incumbent CTOs often have significant knowledge gaps. Typically infrastructure or software is their background rarely both. A key CTO skill is now the business application of relevant technology and services.

Dating the era of a technology organisation and its leadership team significantly speeds up the identification of gaps and red flags within the due-diligence process.

6.      Hiding behind words that create assumptions.

The “Data Centres” of Microsoft or Amazon are quite simply the utopia of modern engineering. Yet many organisations are assuming their “Data Centres” are the equivalent. That is until, business continuity is disrupted of course.

A client recently spoke of their “data centres” around the world. London, Shanghai and Utah. It suggested state of the art technology, yet the budgets were a little odd across all sites. It’s unlikely they would be all the same, as London was where the business started and became the hub, yet the US cost nearly double London. Whilst discussing the organisations history, it became clear how their London “Data Centre” was a cleaning cupboard within a regular office. Positioned directly under the ladies upstairs toilets, was the equivalent of an untidy teenager’s bedroom. This was a disaster waiting to happen. The CTO was embarrassed. Sure enough the generators recently failed and invoicing was delayed 4 days. It then gets worse. All world-wide network traffic was routed through that “data centre”, clients were off line for over 24 hours. They lost their biggest client.

Offices generally don’t make secure data centres. Modern data centres are a commodity and are now simply a cost of doing business. Organisations need to get out of the infrastructure business and focus on their differentiating features.

There needs to be a transparency and honesty as to the key building blocks of an organisation, and what the gaps are when compared to their competition or market leaders.

7.      Under-investment as an excuse to do nothing.

Organisations need to decide where to spend their capital. Prolonged under investment causes a lack of motivation to justifying new strategic investments.

Even in an investment freeze, good organisations find money in the form of waste, and create profit centres. An example. Rather than investing in a new HR system one organisation out-sourced the whole HR department. In doing so they were supplied with a new HR system and better ways of working with a well-defined deliverable of course.

8. The anti-pattern of Clever people.

There are 3 key areas where organisations can minimise the risks of making mistakes or creating waste:

• ·        Overcoming Ignorance: Usually solved by good staff training.
• ·        Using Technology: Using tools to be more efficient and less wasteful.
• ·        Preventing Ineptitude: Clever people do stupid things.

Technology organisations need to have repetitive processes to deal with ineptitude. “Clever people do stupid things” and don’t like conforming to a list of things to do. Within aviation & healthcare, death statistics have been significantly reduced by using check lists. The evidence of iterating through pragmatic check lists, demonstrates how hygienic an organisation is. For example software licencing is often not up to date, yet everyone assumes it is. 

Organisations with good operational standards and audit trails, that learn to protect themselves from stupid or previous mistakes. They minimise waste and the likelihood of repeating mistakes.

9. Sacrificing quality first.

Organisations that are running too fast fail to plan properly, with the consequence that quality deteriorates and customers are ultimately the ones who suffer.

Organisations that are trying to reduce the cost of technical resources invariably reduce quality and often increase costs.

Critical path analysis to identify dependencies, and Lean IT practices, to reduce waste, are best practice and should be observed at all times.

10.      The anti-pattern of “We have always done it like this”.

When you hear the words “We have always done it like this”, this is typically a symptom of an organisation where time has passed them by. They are misaligned with their market. This is referenced as the "transformation phase". (See Communication Matrix).

From time to time major incidents happen and senior staff decide to fix the issues. When a senior member of staff demands a user name and password subordinates (often shy retiring types) do their very best to help. On one particular occasion a user name and password was created at a super admin level across the whole group (circa 100,000 employees). A year later they were asked to document their processes and within the documentation was that same user name and password was printed with the highest access possible. “All” staff within that department were all signing into the system with that same username and password.

Any user signed into the system using that username and password had access to ANY customer information.

Remember these words “We have always done it like this”. Have you heard them recently?

11.       The Anti-pattern of One.

Years ago people only had one bank account or one email address, one house and one car. They either had one or they didn't. Now people have several of each.

In computing the first virtual server quickly became 10 then 100 servers and this required a change in thinking. To Systems that managed collections not singletons. Getting multiple servers, (copies of other instances), to play nicely requires significant change and investment.

That “There will only ever be one of them” mind-set is the “Anti-pattern of One” and is often wrong. This is symptomatic of an bygone era.

Be careful of the words “we will only ever have one of those”. Time proves this is not always the case.

12.      The failure to define what is moving: Volatility.

Rarely are software systems designed based upon volatility. Systems reflect how an organisation worked and communicated at a point in time. Upgrading such systems forces widespread change; management's role is to limit the "blast radius" of change.

Understanding their own building blocks and moving parts, helps organisations encapsulate the risks of change and de-couple the sensitive business areas from change.

Organisations that understand themselves, and are actually able to leverage volatility, their systems last longer, and they enjoy lower maintenance costs.

Conclusion

Due-diligence is an assessment of the organisation its technology and leadership team. Experience reveals patterns of technology that provide valuable insight to investors.

For advice about preparing for due-diligence or if you require due-diligence services please contact your value added partner below.