In the past few months, I have had an unusual number of inquiries from private equity firms about the state of the electronic data interchange (EDI) market. I was a senior executive for two EDI firms many years ago. I worked in product management, client services, and outsourcing general management. I also was involved in corporate development. I evaluated over 200 EDI companies as acquisition candidates and led the operational side of a large EDI acquisition. Since then I have conducted over 50 briefings about the state of the EDI market and its key players for various private equity firms and VCs in the past 10 years. While the pace of these briefings has decreased over the years, recently there has been a flurry of inquiries. The decline of SaaS valuations from the lofty heights of 2021 has sparked an interest in value-driven investors. This got me thinking. Is there an opportunity to disrupt the EDI industry in 2023 through some creative strategic acquisitions?
The EDI Ecosystem
EDI traces its roots back to the Berlin Airlift of 1948. In the 1960s The Transportation Data Coordination Committee (TDCC) developed standards for the transportation industry. In 1969, it was renamed the Electronic Data Interchange Association (EDIA) reflecting the broader application of its work. The auto industry and large retail chains moved to EDI through the 1970s. The U.S. Department of Defense standardized on EDI in the 1990s. A number of standards organizations (ANSI X12, U.N. EDIFACT, ODETTE) evolved and published standards for EDI transactions. Today over 7 trillion dollars of commerce is conducted via EDI.
The EDI ecosystem has three major components:
B2B Integration Software
Systems that send/receive data from internal systems (ERP, Transportation Management, Claims Processing, Order Management, etc.), translate the data into EDI standard transactions (850 purchase orders, 832 price/sales catalog, DELFOR delivery schedule message, etc.), and then communicate the messages to trading partners via a value added network (VAN) or a direct connection. These solutions were initially known as EDI translators and subsequently evolved into general application integration engines (B2Bi). These were initially on-premise software solutions. Post Y2K, SaaS solutions evolved that are now known as B2Bi/iPaaS (Integration Platform as a Service).
EDI Value Added Networks (VANs)
An EDI VAN is a secure network where EDI documents can be exchanged between a network of business partners. An organization is provided with a mailbox by the EDI VAN provider. Documents are sent and received from there and the organization checks the mailbox periodically to retrieve its documents. EDI VANs provide multiple ways for trading partners to communicate with each other – from dial up modems, Internet connections and even dedicated frame relay circuits.
Some of the key benefits VANs offer include managing the set up of trading partner communications, the management of message delivery, and interconnections to other EDI VANs.
Interconnects are a critical part of EDI VANs. Trading partners use different VANs. Macy’s uses OpenText, but many of their vendors are on Sterling Commerce. Interconnects allow one company to send EDI transactions from their mailbox on one VAN to their trading partner’s mailbox on another network. Some VANs have interconnects to over 150 public and private networks.
AS2 solutions, which enable secure direct connections between trading partners over the Internet were pioneered in 2002. AS2 solutions were touted to disintermediate the need for EDI VANs. Walmart became one of the largest organizations to embrace AS2. But many companies learned that adopting AS2 meant that they had to assume the responsibility for establishing, testing, and managing EDI communications with all of their trading partners – duties that the VANs had provided as a part of their service. Over time many concluded that the benefits of eliminating VAN costs were outstripped by the costs of having to manage all of their own B2B communications. Today, many VANs offer a hosted AS2 solution.
Value Added Supply Chain Applications
Many vendors offer value added applications on top of their B2B software or VAN solutions. Examples include supply chain visibility, order management, vendor managed inventory, customs clearance, and even rail car location management solutions.
EDI is a Mature and Highly Consolidated Market
In the 1980s and 90s there were dozens of players in the EDI ecosystem. Since then the market has been consolidated through various mergers, acquisitions, and divestitures. OpenText alone has acquired multiple EDI companies (GXS, Easylink, Liaison, and Covisint). Prior to their acquisition, GXS and Easylink had acquired multiple other EDI companies. Today over 75% of the EDI industry revenue is concentrated in five public companies: OpenText, SPS Commerce, Descartes, Sterling Commerce (IBM) & Axway, and two private companies: Boomi and TrueCommerce.
The twelve main players in the EDI market include:
|Vendor||B2B Integration Sofware (On Premise / SaaS)||EDI Value Added Network||Value Added Supply Chain SaaS Applications|
|1 EDI Source||Yes||No||No|
What Do The Industry Leaders Have in Common?
Five of the seven industry leaders cover all aspects of the EDI ecosystem. OpenText, SPS Commerce, Sterling Commerce, Descartes & True Commerce all offer B2Bi software, Value Added Networks, and Value Added Supply Chain SaaS applications. This offers these companies a significant competitive advantage. They can be a one-stop-shop for all of their customers’ EDI needs. They don’t provide their competitors with the opportunity to get their foot in the door into a customer’s account.
Customer Concentration Introduces the Risk of Disruption
The concentration of customers, however, does introduce the risk of disruption. EDI is a very entrenched technology that is not going away. Google “Is EDI Dead?” and you will find over 6 million articles and websites. The overwhelming consensus is that EDI is too deeply engrained in several industries’ supply chains. It just works. While newer technologies like direct API integration between trading partners offer an interesting opportunity, it has a very, very long way to go to become a standard that works across finance, transportation, supply chain, government, and insurance. On a global basis, the volume of EDI transactions is well correlated with the growth or decline of the economy. In general, the EDI market has a compounded annual growth rate of around 3% to 5%.
Another key aspect of the EDI industry is that it is very profitable. When you look at the major public companies that report their financial results, they all have high EBITDA margins: OpenText 28%, SPS Commerce 20%, & Descartes a whopping 41%. One EDI company I worked for was owned by a large private equity firm. We had an internal target of 35% EBITDA margins. Software companies with products that have significant revenues, high profits, and large assembled customer bases are ripe for disruption. Think of MCI disrupting the AT&T long distance business or the iPhone disrupting the mobile phone industry.
In the EDI industry, there is a precedent for disruption. In 2004 Inovis (my employer) acquired QRS. QRS had been a reseller of IBM’s Information Exchange VAN services. That same year GXS, the EDI market leader acquired the Information Exchange business from IBM. GXS then promptly canceled the QRS reseller agreement Inovis had inherited as a part of their acquisition. GXS intended to keep all of the VAN customers Inovis had acquired.
This kicked off what was known as the ‘VAN price war’ to get the QRS VAN customers to migrate to Inovis’ VAN network using extremely aggressive pricing strategies. The end result was that Inovis retained the majority of the QRS customers, although for materially lower revenues. It became common in the industry for all competitors to use low prices to disintermediate the competition. This trend continued for several years until all members of the EDI ecosystem had reset EDI prices to their current level. The scale of this disruption was significant. Typically, VAN prices were based on the volume of data sent/received (known as kilocharacters or KCs). Prior to the ‘price war’, a KC cost about $1.00/KC. Today, a typical KC goes for about $0.05 to $0.01/KC, and even lower with very high volumes and multi-year commitments.
Strategic Mergers & Acquisitions Could Disrupt the EDI Industry
M&A has always been a tool to disrupt mature industries. Probably the best example is Google’s 2006 acquisition of YouTube. Google’s 2006 $1.65 billion acquisition of YouTube. YouTube had been founded a year and a half before and had raised $85 million in venture capital. It had 65 employees but controlled 46% of the video streaming market. Google had been struggling in that market with Google Video. The YouTube acquisition was a huge bet, but it enabled Google to dominate the video streaming market. In 2021, YouTube had grown into a $28 billion business.
There are several opportunities to disrupt the EDI market through M&A. Some interesting possibilities include:
- OpenText acquires Sterling Commerce
- Boomi Acquires Loren Data
- Boomi acquires Axway
- Descartes acquires Kleinschmidt
- Cleo acquires Loren Data
OpenText acquires Sterling Commerce
OpenText is undoubtedly the big dog in the EDI marketplace. Through its acquisitions of Easylink, GXS, Liaison, & Covisint OpenText has the largest VAN business and EDI Managed Services outsourcing business in the market. The acquisition of Sterling Commerce could bring a significant amount of new VAN and Managed Services business. Sterling also brings along one of the largest B2Bi software products as well, Sterling Integrator. Additionally, Sterling offers a number of value supply chain management SaaS applications like order management.
IBM has a history of divesting non-core businesses. In 2021, IBM’s CEO, Arvind Krishna, announced a major strategic shift “We divested networking back in the ‘90s, we divested PCs back in the 2000s, we divested semiconductors about five years ago because all of them didn’t necessarily play into the integrated value proposition.” OpenText certainly has the financial resources and ability to execute such a transaction as evidenced by its $6 billion acquisition of MicroFocus. The only challenge might be the U.S. Justice Department’s recent focus on preventing mergers when the result would be an unconscionable concentration of market power in a single firm.
Boomi acquires Loren Data
Loren Data is a small pure-play provider of EDI VAN services. Loren Data was founded in 1999 and has all of the interconnections needed to reach any EDI trading partner in the EDI ecosystem. Loren Data also offers ECGrid, Loren Data’s core offering has a robust web services API to enable companies to deeply integrate VAN capabilities into their products.
Boomi does not offer an EDI VAN solution. They have a leading B2Bi solution, but by not offering an EDI VAN they provide their larger competitors like OpenText and Sterling Commerce a foothold into their accounts. Cross-selling EDI VAN services into the assembled Boomi customer base could drive material, high-profit revenue growth for Boomi.
Boomi acquires Axway
Boomi and Axway are both leaders in B2Bi and iPaaS solutions. Boomi was spun out of Dell for $4 billion to Francisco Partners and TPG Capital. Axway is a French public company with an enterprise value of $447 million. On a combined basis the new company would have over $500 million in revenue and be the leading player in the B2Bi/iPaaS space. It is very conceivable that Francisco & TPG Captial could take Axway private and later take the combined company public, especially considering that Axway’s Enterprise Value/Revenue (ttm) ratio is only 1.79x – a significant discount to the August 2022 median EV/Revenue ratio for public ERP/Supply Chain companies of 9.6x. Francisco Partners was the long-time private equity owner of GXS before it was sold to OpenText.
Descartes acquires Kleinschmidt
Descartes is a public Canadian company (NASDAQ: DSGX) that specializes in logistics. The Descartes Logistics Network is the largest EDI VAN dedicated to global logistics. In addition to the VAN, Descartes offers several value added supply chain SaaS applications like customs clearance, denied party screening, and freight broker transportation management systems.
Kleinschmidt traces its roots back to 1893. Edward Kleinschmidt, the founder, opened an experimental shop with a sign over the door reading “Inventions Developed.” He later developed the teletypewriter/teleprinter. Kleinschmidt was later acquired by AT&T and then by the Smith-Corona corporation. In 1979 they pivoted to the EDI market, with a special focus on rail car logistics. Today they offer an EDI VAN, several EDI managed services and several logistics SaaS applications. A Kleinschmidt executive has chaired the X12 I transportation subcommittee for years.
The acquisition of Kleinschmidt by Descartes would be a natural consolidation play. Descartes could increase their dominance in logistics EDI and materially grow revenues and profits.
Cleo acquires Loren Data
Cleo was initially known for its on premise Express AS2 software. Subsequently, they expanded into the EDI B2Bi space with the acquisition of Extol in 2016. In 2017 they launched the Cleo Integration Cloud – a SaaS based B2B integration platform. While Cleo has positioned itself as a general B2B integration player, a lot of its success traces back to its EDI roots.
The acquisition of an EDI VAN like Loren Data would give it complete coverage of the EDI ecosystem and help prevent other full ecosystem players from poaching their customers. Through creative pricing, integration with their existing Cleo Integration Cloud, and superior customer service that their competitors often struggle with, Cleo could drive a material amount of new revenues.
Cleo was acquired by Alpine Ventures in 2012. In 2021 H.I.G Capital and Peterson Investors invested in a $3.5 million private equity round for Cleo. Certainly between Alpine, H.I.G., and Peterson enough resources could be assembled for an acquisition.
EDI is a mature, consolidated, and highly profitable technology market. Like all mature technology markets, it is at risk of disruption through creative M&A. When looking at the EDI ecosystem, it is clear that vendors that cover the entire spectrum of the (B2Bi/iPaas, EDI VAN, & Valued Added Supply Chain SaaS) have a distinct competitive advantage over vendors that only cover one or two components.
M&A provides an opportunity to disrupt the EDI market. Some acquisitions, like the hypothetical acquisition of Sterling Commerce by OpenText or Boomi acquiring Axway are more traditional ‘consolidation’ or ‘purchased revenue’ acquisitions. The acquirer is simply adding to the existing products and markets they operate in.
The acquisition of a pure play EDI VAN like Loren Data is perhaps a more strategic opportunity for Boomi and Cleo. While both companies have a solid presence in the EDI ecosystem, their lack of an EDI VAN leaves their customer base vulnerable to encroachment by full ecosystem players like OpenText, Sterling, and SPS.
The combination of multiple players, like Boomi, Axway, Loren Data, and Cleo could be game-changing and end OpenText’s dominance in the market.
The median valuation for public ERP/Supply Chain SaaS companies has declined 37% from Q4 2021 to August 2022 (15.4x to 9.6x EV/Revenue (ttm)). This is closer to the baseline established in 2018. Private equity investors are becoming much more interested in the EDI space with these reasonable valuations. As the market map I laid out in this post indicates, there are a lot of transformational opportunities available today than at any time in the past five years.
Also published on Medium.