Talend Software (TLND) priced their IPO above the range at $18. The company provides data integration software to enterprises who continue to struggle to manage and leverage their growing pile of data - big data, small data, cloud data, etc.

Talend fills a gap in the market for investors after both Informatica and Tibco were acquired in 2015 and 2014 respectively. Just for the sake of starting with these to inform our valuation discussion - Tibco was purchased for $4.3B which was about 4x revenue and Informatica went for $5.4B which was about 5x revenue. (We've made a few adjustments based on the balance sheets and rounded the numbers for simplicity.)

The Never-Solved Problem

Data integration is one of the longest running investment themes in software. There was a major wave new in the 1990’s which included companies offering pure data infrastructure like Informatica and Tibco with their “information bus.” We also had a bumper crop of “enterprise application integration (EAI)” companies like TSI software, New Era of Networks, STC and Vitria software to name some.

Part of the reason the integration problem is never “solved” is that we keep making it harder. Every new technology begets more “legacy” systems. We’ve gone from two-tier to three-tier to now “n-tier” architecture. Into the mix we also added the cloud and myriad new end-points under the “Internet of Things (IoT)” phenomenon.

Talend has the benefit of being the latest, most modern enterprise-class solution in this space today. More traditional players like Teradata (TDC) suffer from older, less flexible and robust technology.  Large software companies like SAP and Oracle have their own ecosystem of tools which are useful for getting information in and out of these systems but they are not general purpose solutions.

After the years of M&A we are left with a landscape dominated by large players with the exception of companies like Talend and Boomi (part of Dell) which offers their software as a service rather than on-premis or via open source.

Here is how Gartner Group summed up the market position of Talend in their 2014 report:

Strengths

Core data integration capabilities. Talend offers bulk/batch data integration capabilities that continue to attract strong growth in the market. Support for data integration operations running natively on Hadoop and evolving operational uses cases (Apache Storm and Apache Spark environment), and an iPaaS offering planned for 1Q15, position Talend well in relation to demand trends.

Integrated product set and broad applicability. Talend's portfolio, including data quality, MDM, business process management and ESB, helps Talend deployments to capitalize on data integration use cases that require synergy with these other capabilities.

Cost model and time to value. References express positive perceptions of value relative to cost and developer productivity. Frequently regarded as an attractive low-price option for augmenting implementations of data integration capabilities by budget-constrained customers, Talend is also selected by larger organizations — though not as often as most of its competitors. Reference customers generally report ease of use and speed of deployment as reasons for adopting Talend's technology.

Cautions

Recognition for functionality and environment coverage. While Talend's use cases reflect well in bulk/batch-oriented data delivery, recognition and deployment of other data integration styles remain relatively limited. Difficulty with access to skilled resources and integration with incumbent technical environments and standards are adverse factors expressed by prospects during evaluations.

Metadata support. Deployments using the product set's multiple data integration tool components, and alongside Talend's various other technologies such as MDM and ESB, are raising expectations for deeper out-of-the-box metadata and data lineage support across the portfolio.

Product support services. Reference customers using older versions report challenges with version upgrades and the application of patches and fixes, expressing a desire for automated processes and provisioning of updates and fixes, as Talend continues to address these concerns through evolving the 5.x product portfolio.

Talend has definitely made progress since this Gartner review was completed (Talend is now in the leaders quadrant). Overall they enjoy a solid position in the market and have positive momentum versus their competitors so we'd expect them to continue to gain share.

The Open Source Distribution Model

This method of go-to-market has been around for over a decade but still many investors don’t fully appreciate how it works. Red Hat (RHT) was one of the first large public companies to demonstrate the long-term success of this strategy.

Most Talend customers start out by downloading some free software which promises to solve a specific problem. Development and testing can be done without any friction. For example the company gets 300K downloads/year of free products and trials which has led (so far) to over 1,300 customers.

It’s a subtle point but there is a major difference between open source and free trials or development-only licenses. Enterprises have serious security concerns and often do new development and testing in their own datacenters. In many cases that holds true for deployment as well.

Open source also gives enterprise customers and their partners and other third party vendors the ability to control and customize elements of their installation to meet their requirements. Proprietary offerings from Oracle or Microsoft don’t provide this level of flexibility.

The revenue conversion cycle is then similar to traditional trial and development license models. Once a customer aggregates enough activity and/or goes into production they are contacted by enterprise sales to purchase. At this point they are highly pre-qualified so sales are very efficient.

An additional benefit to open source comes in terms of product support. An online community of over 200,000 developers means that most answers and usage scenarios can be found online rather than requiring company-sponsored support.

Valuation and Stock Conclusion

The market opportunity is about $16B according to the company which is consistent with what we have observed in the market. Most of the large players - Tibco, Informatica, SAP, Oracle, and IBM have the biggest pieces with over $1B each. That still leaves another $8B or so out there for smaller players like Talend to go after.

Looking at comparable companies in the market there's a wide range of valuations in terms of P/S with an average value of 7.5x. It's a mixed bag since some of these are pure SaaS models and other are closer to TLND with open source software models of distribution. We'd note that the software names tend to trade at lower multiples but the rules are not hard and fast here. (The "pure SaaS" companies like WDAY, TWLO and N are over 10x sales. So when Dell takes Boomi public they can expect a pretty good payday!)

As you can see in the IV model below we come to a target price of $26 for TLND. It happens to equate to about 7.1x sales which would put it close to the average for the group.

The Talend IPO didn't offer a large amount of shares so we'd expect demand may push share prices above our target in the short term. With both Informatica and Tibco now in private hands there are few pure plays in the data integration and management space.

One caveat to keep in mind as Talend moves forward as a public company is that they are impacted by exchange rates more than the average small company. In addition their policy of shortening contract periods to improve realized prices will translate into shrinkage in deferred revenue account which can be confusing for investors who tend to look for deferred revenues to go up over time.

(Click on image to enlarge)