To use a metaphor, gov tech is more the tortoise in the technology world — consistent, steady and reliable through economic cycles — versus the hares chasing growth at all costs in other sectors of technology. And in today’s climate of economic uncertainty, capital is quickly migrating to durable segments like gov tech. So, what makes gov tech a “safe haven” relative to other sectors of technology?
- Loyal and reliable customers: Gov tech companies retain the vast majority of their customers each year (95+ percent on average, from our internal data) — in contrast to private-sector organizations, governments do not go out of business, are not merged into competitors and they pay their bills.
- Predictable business models: Because there is little revenue churn in the market, business models tend to be very predictable. Gov tech companies tend to have very high recurring revenues (75+ percent on average) which, paired with high revenue retention rates, creates a large base of revenue that can be relied on to show up every year. Gov tech companies can look at the year ahead with confidence and know what revenues will be coming in, then manage costs accordingly.
- “Must have” for government operations: Regardless of the economic climate, governments still have to budget, issue permits, repair potholes, respond to emergencies, investigate crimes and everything in between — and there’s little ability or appetite from government agencies to rip out the system enabling that process. Because of this, the solutions gov tech companies sell are more “must have” than “nice to have,” underscoring the high revenue retention. In addition, adoption of gov tech solutions creates efficiency within government agencies and it’s still not uncommon to displace manual, paper-based processes. Technology adoption enables governments to do more with less, which takes on even more importance in a downturn if budgets are slashed.
- Founder-owned, bootstrapped DNA: While there is more early-stage venture capital entering the market, the majority of gov tech companies started out as founder-owned businesses that were bootstrapped (i.e. not heavily funded with institutional capital), investing only the profits they generated every year and creating an operating mindset characterized by discipline and efficiency where every dollar matters. Most of the gov tech companies we have seen, regardless of scale, are either breaking even or making money — efficient, profitable operations are part of the DNA of this market.
- Profitable, “lean” business models: Most gov tech companies turn a profit and do so early on because they run relatively “lean” from a cost perspective. First, gov tech companies generally do not over-invest in sales and marketing because there are practical limits to how fast they can efficiently grow, in large part due to the longer sales cycles endemic to the market. As an example, the largest gov tech companies spend 15 percent to 20 percent of their revenues on sales and marketing, vs. 40+ percent of revenues for their counterparts in private sector, based on our internal analysis. In addition, gov tech companies are found across the nation, typically not concentrated in the high-cost coastal cities where personnel and overhead costs are materially higher, keeping development and G&A costs much lower than other tech companies. When paired with high recurring revenue and high gross margins, it’s a recipe for great profitability. And profitability is imperative to help weather the storm in times of economic uncertainty.
PRIVATE EQUITY “DRY POWDER” WILL CONTINUE TO FUEL ACTIVITY
The other reason that activity has and will continue in the gov tech category is the interest and influence of private equity on the gov tech market. Private equity firms have $1.8 trillion that has been raised and needs to be invested — their capital has a countdown timer and needs to be put to work. In times of economic uncertainty, there is less appetite for risk, and so capital gravitates toward the sectors and companies that are predictable and have a lower-risk profile — gov tech.