How Open-Source Software Compliance Affects Valuation in Tech Acquisitions During M&A

Open-source software (OSS) has become integral to software development, with studies indicating that over 90% of modern applications comprise open-source components. While OSS offers numerous benefits, including cost savings and accelerated innovation, it also introduces complexities during mergers and acquisitions (M&A). Non-compliance with open-source licenses can significantly impact the valuation of tech companies, potentially leading to legal liabilities, operational disruptions, and diminished asset value.

The Critical Role of Open-Source Compliance in M&A

During M&A transactions, thorough due diligence is essential to assess the target company's software assets. This process involves identifying all OSS components used, understanding their associated licenses, and ensuring compliance. Failure to comply with OSS licenses can result in legal consequences, including lawsuits and the obligation to release proprietary code to the public, thereby eroding competitive advantages.

Real-World Implications of Non-Compliance

A notable example highlighting the repercussions of OSS non-compliance is Cisco's acquisition of Linksys. Post-acquisition, it was discovered that Linksys products incorporated code licensed under the GNU General Public License (GPL). The Free Software Foundation initiated legal action against Cisco for failing to disclose the source code, as mandated by the GPL. Ultimately, Cisco settled by releasing the affected source code, which undermined the proprietary value of the acquired assets.

Similarly, the 2017 Equifax data breach, which compromised the personal information of over 140 million individuals, was attributed to an unpatched vulnerability in the open-source software Apache Struts framework. This incident underscores the importance of addressing security vulnerabilities in OSS during due diligence, as such oversights can lead to substantial financial and reputational damage.

Impact on Valuation and Deal Dynamics

Open-source compliance issues can directly influence the valuation of tech companies during M&A. Non-compliance may necessitate extensive code remediation, delay deal closures, or even result in deal termination. Buyers often adjust valuations to account for potential legal liabilities, remediation costs, and the risk of future non-compliance.

Best Practices for Mitigating OSS Risks

To safeguard against the risks associated with OSS during M&A, companies should adopt the following best practices:

1. Comprehensive Software Bill of Materials (SBOM): Maintain an up-to-date inventory of all software components, including OSS, to facilitate transparency and compliance.
2. Regular Open-Source Audits: Engage third-party experts to conduct thorough audits of software codebases, ensuring all OSS components are identified and compliant with their respective licenses.
3. Implement Robust Open-Source Policies: Develop and enforce internal policies governing the use of OSS, including guidelines for license compliance and security vulnerability management.
4. Due Diligence on Generative AI Use: With the rise of generative AI in software development, assess whether AI-generated code includes OSS components and ensure proper attribution and compliance.

In Closing…

Open-source software offers significant advantages but also introduces complexities that can affect the valuation and success of tech acquisitions. By prioritizing open-source compliance through diligent audits, clear policies, and proactive risk management, companies can mitigate potential pitfalls and ensure smoother M&A transactions.

Note: The preceding text is provided for informational purposes only and does not constitute legal nor business advice. The views expressed in the text do not necessarily represent the views of Fossity or any other organization or entity.

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