43% of Software Companies Lose Money

Updated: Dec 22, 2019

Worldlocity recently completed an analysis of 113 publicly-held software companies with market capitalizations greater than $300M. The companies represent $269.3 Billion in total revenue and roughly $1.8 Trillion in total market capitalization. Of the 113 companies, 48 of them, or 43%, are losing money on an operating basis.

The initial basis for the study was to determine the R&D intensity of the software business as a whole. This means an analysis of how much software companies spend on R&D as a percentage of their revenue. An earlier Worldlocity analysis focused on a smaller set of 32 software companies in supply chain management and adjacent businesses. A data set of 113, representing $269.3B in revenue, was reasoned to be a sufficiently large data set to be a proxy for the business of software, overall.

Below are some of the findings of our study:

1. 48 of the companies, or 43%, have a negative operating profit.

2. The average market capitalization-to-revenue ratio of the group of 113 is 6.6.

3. The average market capitalization-to-revenue ratio of the 48 companies with negative operating profit is 7.3; the average market capitalization-to-revenue ratio of the 55 companies with positive operating profit is 6.2.

4. The average R&D investment as a percentage of revenue is 19.8%.

5. The average two-year revenue CAGR of the group is 24.7%.

6. The average gross margin is 68.5% and the average operating margin is minus 1.4%.

7. The top 10 revenue-producing companies created 92.6% of the operating profit of the group; the top 20 created 99.5% of the operating profit of the group.

8. From a purely statistical standpoint, there is zero correlation between operating profit and market capitalization-to-revenue ratios.

9. Various analyses were performed to see if there were significant correlations between operating variables and market capitalization-to-revenue ratios. Single variable correlations were all poor. The best multiple variable correlation was a combination of growth, gross margin, operating margin, and R&D.

10. All of the above percentage averages are calculated based on the average of all percentages within a given area. For example, the average gross margin is calculated by simply adding up all the 113 individual gross margin percentages and then dividing by 113.

11. Another analysis was done by adding all dollar-value revenues, gross margins, operating margins, R&D investments, and market capitalizations to see if any of the resulting percentages differ dramatically from the average of the percentages. Growth is the one variable that differs dramatically; the growth rate based on the overall dollars across the companies is only 5.3% versus the average of the company growth rates of 24.7%. This is because a number of the largest companies had flat or negative growth for the period studied.

A full analysis of this will be done later in 2018 with updated numbers. For the time being, it's safe to say that the software business in general is investing heavily and is being rewarded handsomely by investors for such investment. Even as it matures, software industries remain among the most exciting and dynamic, requiring and garnering lots of investment. As software continues to eat the world, this trend is likely to continue for quite some time.

The full study report can be downloaded here.

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