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Cisco buys tech IPO candidate AppDynamics for $3.7 billion

So much for the first tech IPO of the year.

Cisco just snapped up AppDynamics for $3.7 billion, one day before the software developer was scheduled to sell shares to the public at a valuation of less than $2 billion.

AppDynamics develops software to help companies ranging from Capital One Financial to Expedia monitor their mobile apps and websites for bugs and fix them before customers drop off. Founded in 2008, the company generated revenue of $158.4 million in the first nine months of 2016, up 54 percent from the prior year.

"From a strategic perspective, this is a company that Cisco has had its eye on for some time," said Rob Salvagno, head of corporate development at Cisco. "The IPO created a timing piece that we needed to be mindful of."

AppDynamics marks the biggest deal for Cisco CEO Chuck Robbins, who took over the networking giant from John Chambers in 2015. He's orchestrated at least 17 acquisitions, including the $1.4 billion purchase of Jasper Technologies a year ago to bolster Cisco's business in connected devices.

Robbins is tasked with pushing Cisco into a new era of computing. The big switches and routers that made Cisco a dominant force in computer networking through the last decade are no longer in high demand, as businesses move to buying commodity boxes controlled by customizable software. For Cisco to stay relevant in a world of cloud-computing and big data, the company needs to own more of the software that corporations are buying.

AppDynamics said in its IPO prospectus that as of Oct. 31, it had about 1,975 customers, including over 275 of the Global 2000. CEO David Wadhwani, who joined in 2015, will run a new software business in Cisco's internet of things (IoT) and applications business, and the deal is expected to close in the quarter ending in April, Cisco said.

For AppDynamics founder and Chairman Jyoti Bansal and the company's top backers Greylock Partners and Lightspeed Venture Partners, the sale marks a big return that would've been challenging to achieve as a public company.

Bansal owns 14 percent of the company, equaling about $525 million. Greylock and Lightspeed each own close to 21 percent, or shares valued at about $770 million.

Wadhwani and Bansal "have built AppDynamics into one of the fastest growing enterprise software companies, by providing an applications intelligence platform that is needed by every enterprise," said Asheem Chandna, a partner at Greylock, in an e-mailed statement.

Earlier on Tuesday, Appdynamics increased the expected price range of its IPO to $12 to $14 a share. At the top end of that range, the company would've been valued at $1.7 billion. The last private round in 2015 — Series F — valued AppDynamics at $1.9 billion in a deal led by General Atlantic and Altimeter Capital. Even if the stock popped following the offering, insiders wouldn't be able to start selling their shares for six months.

"Doubling one's money in 15 months bodes well for Altimeter Capital, General Atlantic, and the rest of the Series F investors," said Phil Haslett, co-founder of EquityZen, a site that connects investors with start-ups.

And AppDynamics was burning cash on sales and marketing, leading to a $95 million loss through three quarters of 2016. The high growth, high-cost model isn't one that Wall Street has treated too kindly of late. Hortonworks and Pure Storage are still trading below their IPO prices from 2014 and 2015.

2016 VC-backed tech IPOs

Company Type Offer date Amount raised
Coupa software Oct. 5 $133 mln
Nutanix infrastructure Sept. 29 $238 mln
Apptio software Sept. 22 $110 mln
Trade Desk ad-tech Sept. 20 $97 mln
Everbridge software Sept. 15 $104 mln
Twilio software June 22 $160 mln
Source: CNBC

While a windfall for early investors, the deal will extend the tech IPO drought. Only 19 tech companies went public in the U.S. in 2016, marking the weakest year for offerings since the depths of the financial crisis in 2009, according to data from University of Florida finance professor Jay Ritter.

There's not much in the immediate future either. Snapchat parent Snap has reportedly filed confidentially with the Securities and Exchange Commission, and business software developers Okta and MuleSoft are also working through the process. The dearth of offerings suggests that many of AppDynamics' peers are struggling to rightsize their balance sheets.

"I do not see the floodgates opening anytime soon," said Vincent Letteri, director at KKR's growth equity fund in Menlo Park, California. "The reality is that the financials of a lot of these companies look really ugly."

Cisco paid a hefty premium for AppDynamics, but it's hardly a dent in the company's $71 billion cash pile. Large-cap peers Oracle, Microsoft and Salesforce.com have been opening their wallets as well.

With the private market in the midst of a cooling and public investors unwilling to pay up for risky, money-losing businesses, venture capitalists are hoping that cash continues to pour in from acquirers.

"We have hit an inflection point, where private companies have to choose an exit," said Venky Ganesan, a partner at Menlo Ventures. "The private market is no longer affording these companies the same kind of valuations. Also, employees at these start-ups are searching for liquidity."

—CNBC's Josh Lipton contributed to this report.