Summit Partners and RoboSoft, LLC: Mezzanine Debt Investment

Abstract

In February 2013, John Carroll and Alexander Whittemore, both managing directors at Summit Partners (Summit), are considering an investment in RoboSoft, LLC (RoboSoft), a provider of data-center automation, business intelligence, and security software solutions, primarily for the IBM i operating system. Summit had previously invested in RoboSoft, and did well when it exited the company in 2007. Over the ensuing years, Summit had followed RoboSoft and was considering a second investment in the company when it was put up for sale again in late 2012. This time, Summit planned to invest $103.6 million from its growth equity fund and $43.9 million from its subordinated debt fund to buy out the company. This case is designed to introduce students to mezzanine investments. Because the deal involves both an equity and a subordinated debt investment, students can compare the investment considerations and return expectations of both types of investors. The case contains the actual deal team's investment memorandum summarizing the merits of the RoboSoft investment. The students are asked to qualitatively evaluate the potential benefits and risks of the investment from the perspective of a debt investor and an equity investor, and to quantitatively calculate the internal rate of returns (IRRs) and cash-on-cash returns (CoCs) of Summit's equity and subordinated debt fund investments. This case is appropriate for classes that survey private equity investments, or for corporate financing classes that wish to compare the risk and return of equity and debt investments. It is assumed that students have taken valuation courses and understand residual equity cash flow valuation methods. There are Excel files—one for students, one for instructors—to support analysis of this case. Excerpt UVA-F-1845 Rev. Apr. 16, 2020 Summit Partners and RoboSoft, LLC: Mezzanine Debt Investment In late February 2013, John Carroll and Alexander Whittemore, both managing directors of Summit Partners (Summit), were finishing a memorandum to the investment committee (IC) summarizing the merits of an investment in RoboSoft, LLC (RoboSoft) (Exhibit 1). The company was a provider of data-center automation, business intelligence, and security software solutions, primarily for the IBM i operating system (IBM i). As they discussed the situation, Carroll and Whittemore were reminded just how old this technology was. The precursor of the IBM i, the System 34/36/38, was developed in the 1970s, followed by the AS/400 in 1988—all before the internet, PCs, and cell phones became common household items. Although IBM continued to update the series, new operating systems had entered the market (e.g., Unix, Linux, and Windows) and began to erode its market position. The same issue had been a concern when Summit originally invested in RoboSoft in 2005. That investment, however, had worked out well and generated a 5x times; return for Summit's growth equity fund when the business was sold to its current owners, Adison Partners (Adison), in September 2007. In November 2012, Adison engaged Richmond Advisors to begin a new process for selling the company. After selling the business to Adison in 2007, Summit had maintained its relationship with the company and thought highly of the management team. As a result, Summit reviewed the investment again in this sale process and decided to put in a first-round bid for RoboSoft in January 2013. That bid had gotten Summit through the first round, and second-round bids were due in a few days. This time, the firm was contemplating a potential $ 43.9 million investment from its subordinated debt fund and a $ 103.6 million investment from its growth equity fund. Some of the same concerns Summit had faced with its earlier investment—possible obsolescence of the iSeries and RoboSoft's relatively slow organic growth—remained issues now. Additionally, investing money for a second time in the same company was likely to draw special scrutiny from the IC. . . .