Orlando Bravo - The Art of Software Buyouts - [Invest Like the Best, EP. 257]

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At a Glance

The guest is Thoma Bravo co-founder Orlando Bravo, who manages over $90 billion in assets and has led over 350 software acquisitions. This episode focuses on the unique art of software buyout investing. The most significant judgment of the entire episode: Orlando Bravo believes that high profitability and high growth are not contradictory; rather, the former is the driver of the latter. The market's prevalent capital allocation approach of "losing money for growth" is the root cause of most SaaS companies' inability to achieve high profitability.

The Unique Operational Philosophy of Software Buyouts: Profit-Driven Growth

Orlando Bravo argues that high profitability and high growth in software companies are mutually reinforcing, not opposing forces. This is his core disagreement with the mainstream market view (which prioritizes growth and accepts sacrificing profits).

• Mechanism Breakdown: Bravo points out that high profitability indicates management has made the right innovation and operational decisions. Specifically, high profits mean the company:

1. Has a sufficiently good product and can charge a price above labor inflation.

2. Can precisely measure input-output ratios and optimize various functional areas.

3. Has more capital to invest in tactical growth (sales & marketing) and strategic growth (R&D).

> "Being highly profitable also means that you have a good enough product and you're charging a price for that product that allows you to produce that profitability."

• Critique of Market Consensus: Bravo believes many investors mistakenly equate "growth" with "losses." He criticizes the assumption that a company can "suddenly" achieve high profitability after years of losses, arguing that an operational culture cannot change overnight.

> "That company in year four is not all of a sudden going to change how they plan... They'll never get there. You got to start now to get there."

• Data Comparison: He highlights the vast gap between Thoma Bravo's portfolio and the market average.

Metric	Average SaaS Company	Thoma Bravo Portfolio
EBITDA Margin	Slightly Negative	~35%-40%

Cybersecurity: An Underappreciated Prime Opportunity

Orlando Bravo believes the cybersecurity sub-sector is an excellent opportunity set within software investing. Despite these companies being large and profitable, they have far lower public recognition than consumer-facing tech companies.

• Defining Market Leader: In software, the definition of a "market leader" differs from most industries. Bravo emphasizes that the key is having the best product. Since CIOs and CISOs tend to choose the top two or three products in a market, judging product strength is critical.
• Cognitive Bias & Opportunity: Cybersecurity companies are mostly complex enterprise technology solutions, lacking consumer brand awareness. This leads to valuation mismatches during public market volatility, as investors sell these stocks due to a lack of understanding. Bravo notes that the scarcity of investors focused on enterprise software creates an opportunity for specialized investors.
• Divergence of Scale and Awareness: Thoma Bravo's cybersecurity portfolio is massive, yet most of its companies are unknown to the general public. This "strange disconnect" is both a source of their investment returns and a challenge when taking these companies public.

The Evolution of Return Sources: From Leverage to Operations to Growth Judgment

Orlando Bravo points out that the sources of returns in software buyouts have fundamentally shifted. Future returns will primarily depend on operational improvements and judgment on growth, rather than leverage or simple multiple expansion.

• Historical Context: In the early days (2000-2005), software buyouts used very little leverage, with returns mainly coming from operational improvements. Leverage briefly appeared after 2005, but post-financial crisis, the market shifted towards high-growth SaaS companies. At this point, return sources became "operational improvement + judgment on growth."
• Current Strategy: In its flagship funds, Thoma Bravo never assumes making money from multiple expansion through "buying low and selling high." They even assume multiple contraction in their models because the acquired company may have no profits. Their core is to create a profit engine, allowing the investment to eventually exit based on earnings rather than revenue.
• Future Opportunity Assessment: Bravo believes the current public market opportunity in enterprise software is highly attractive. He provides a comparison framework:

Metric	S&P 500	Profitable Software Index
Current P/E Ratio	~23-24x	~30-35x
Earnings Annual Growth Rate	~7%	~20%
P/E Ratio in 4 Years (assuming constant growth)	~16x	~16x

Conclusion: In four years, the P/E ratios of the two will converge, but software companies have better business models (recurring revenue, higher terminal growth rates), making them the superior choice.

The Art of Selling: When Strategic Buyers Come Knocking

Orlando Bravo believes that the sell decision is as important as the buy decision, with the core principle being: "When a strategic buyer comes knocking on your door, you should lean towards selling."

• Selling Philosophy: Thoma Bravo is not afraid to sell and takes pride in it. They believe that handing a company over to a strategic buyer or another PE fund and letting them succeed is the best way to build long-term relationships.
• The "Strategic Buyer Knocking" Signal: Bravo sees this as a clean sell signal. A strategic buyer's window of interest is fleeting—they might soon buy another asset, build internally, or change their strategic focus.
• Feasibility of Short Holding Periods: Bravo acknowledges their holding period can be very short (even under a year), but this is thanks to their method of working with existing management. They develop the business plan with management before the deal closes, allowing them to exert influence quickly. In contrast, replacing management leads to a "learning period" of at least two years, slowing down the process.

Positions Mentioned

Position	Guest's Stance	Key Data
Profit21	Success Story	Acquired at ~2x maintenance revenue; completed 6 bolt-on acquisitions in 3 years, achieving high profitability and high growth.
RealPage	Mentioned as a vertical software case	Focused on the real estate industry, sharing "nothing in common with other software companies except the name software."

Judgments Worth Remembering

1. High Profitability Drives High Growth, Not the Other Way Around (Orlando Bravo): High profits mean management has made the right innovation and operational decisions, providing more capital to invest in effective growth channels.

2. The Assumption of "Suddenly Profitable in Year Four" is a Fallacy (Orlando Bravo): An operational culture cannot change overnight; a profit-oriented decision-making mechanism must be established from the start.

3. "Market Leader" in Software Means "Best Product" (Orlando Bravo): Especially in critical fields like cybersecurity, customers gravitate towards top products; product strength is the core of investment decisions.

4. Low Awareness of Enterprise Software is a Public Market Opportunity (Orlando Bravo): Lacking consumer brand effects, enterprise software companies are prone to mispricing during market downturns, creating value opportunities for specialized investors.

5. Future Returns Will Come from Operational Improvements and Growth Judgment, Not Multiple Expansion (Orlando Bravo): Thoma Bravo even assumes multiple contraction in its models; the core is creating a profit engine.

6. "When a Strategic Buyer Knocks, Sell" (Orlando Bravo): A strategic buyer's window of interest is short and volatile; this is the cleanest and most effective sell signal.

7. Working with Existing Management is Key to Exerting Influence Quickly (Orlando Bravo): This allows for planning before the deal closes, avoiding the two-year "learning period" cost of replacing management.

8. "Culture Add" is Better Than "Culture Fit" (Orlando Bravo, citing a colleague's view): Hiring should seek people who bring new perspectives and diversity, not just those who are similar to the existing team.