Forescout Technologies Inc.

On Feb 6, 2020 Forescout Technologies, Inc. (“FSCT” or “the Company”) announced its purchase by Advent International for $33/share in a $1.8bn deal. We believe investors ascribe too high a probability that it is a done deal. Upon conducting a forensic analysis of deal proxy statements, we observe that some financial forecasts reviewed by Forescout internally may not have been shared with prospective acquirers – and that some of these forecasts were materially worse than those known to be disclosed to buyers. Whether or not this represents a breach of reps and warranties, we believe it should serve as grounds for Advent to negotiate a lower share price. Advent’s interest in revisiting the terms should be high given that the deal was struck just weeks prior to the WHO declaring COVID-19 a pandemic, which we believe dramatically alters the financial outlook for Forescout, a negative EBITDA business which was already under growth pressures and missing its guidance. Importantly, with the onset of the pandemic, Spruce Point estimates that it is likely in Advent’s interest to walk away from the deal – even after taking into account its $112M termination fee. We believe Advent substantially overpaid, underscored by Investcorp’s recent purchase of Avira in early April. Avira, a profitable cybersecurity company, was acquired at a revenue multiple >50% less than Forescout’s. We believe that Advent can, and should, use this as leverage to renegotiate the deal price lower by 35%-50%. In our opinion, Advent, a steward of public pension capital, must negotiate a lower deal price more reflective of Forescout’s ominous outlook, rather than unjustly enriching management with a $100m payday, and early VCs for having created limited / no value as a public company.

Was Forescout’s Complete Financial Outlook Shared With Prospective Buyers? Upon a close forensic analysis of the deal proxy statement, Spruce Point believes that some financial forecasts prepared by management may not have been shared with prospective buyers. In particular, forecasts which projected FY20 sales 8%-9% lower than the Company’s primary “Target Plan” were prepared and analyzed internally at various points through the acquisition timeline, but appear not to have been submitted to potential acquirers. In each case, these internal financial forecasts appear to have represented plausible outcomes for Company performance based on management’s best
knowledge of the state of the business at the time, and, accordingly, should have been shared alongside its more optimistic forecasts. One of these forecasts was management’s preliminary Q1 and full-year FY20 revenue guidance which it planned to (but did not) share on its Feb 6, 2020 (Q4 FY19 earnings) – a call which was cancelled upon the morning’s deal announcement. With the Q1’20 guide a full 20% below consensus Q1 estimates and suggesting year-over-year contraction, the announcement could have dealt a crushing blow to the stock, possibly altering the course of any acquisition talks. With Advent – a financial buyer – having shown a relatively high level of sensitivity to forecast adjustments over the course of the negotiation, Spruce Point believes that the later  disclosure of this guidance revision lower in the deal proxy may serve as motivation for the firm to walk away from the deal, or at least demand renegotiation.

A Busted Dinosaur IPO Under Greater Pressures Remarketing Debt Capital In A Highly Discriminating Environment: It took Forescout 17 years to IPO, giving analysts reason to dub it a “dinosaur” IPO. As a public company, we believe FSCT created little/no value for shareholders, and was showing signs of fundamental strain even prior to the onset of the COVID-19 pandemic: a disappointing Q3 FY19 preannouncement sent shares tumbling down ~37% as top-line growth decelerated to single-digit levels for the first time in years. Spruce Point finds evidence of widespread dissatisfaction among its employee base, notably the front-line sales force which has shown significant turnover. The product itself has also received increasingly unfavorable reviews through the past several years as the competitive landscape has grown more crowded. Based on our primary due diligence, we learned that competitors are bundling more solutions, and cyber deals for small and medium sized businesses are being delayed, leading to pricing
pressure. With a large percentage of its customers tied to government spending where margin upside is generally limited, a history of negative EBITDA and free cash flow,
and an uncertain SaaS transition, investors should be worried about $400m of debt capital needed to fund the transaction during a newly disclosed “remarketing” period.

A Favorable Cost / Benefit Analysis Gives Advent Leverage To Demand New Terms: Spruce Point estimates that, given (1) Advent’s potentially incomplete view into Forescout’s financials during the negotiation process, and (2) pandemic-related developments which we believe erodes the Company’s outlook going forward, a conservative reevaluation of the deal featuring NO multiple compression could see Advent value FSCT more than 20% below the $33/share deal price. Despite facing a $112M termination fee, a straight-forward cost/benefit analysis reveals that, at the current terms, Advent would do better to walk away from the deal rather than complete it. We believe that, in a more realistic scenario in which Forescout’s projections are revised downward, and the multiple compressed, FSCT shares should be valued between $17- $22 regardless of whether the deal is renegotiated or annulled completely, yielding 35%-50% downside to the $33 price.