Ten years ago, startup financing was an insider’s game. Since then, the topic has been widely discussed on blogs, to the great benefit of entrepreneurs. Comparatively little, however, has been written about the important transaction at the other end many startups’ life, acquisitions. Here are some things I’ve learned about the acquisition process over the years.
– There is an old saying that startups are bought not sold. Clearly it is better to be in high demand and have inbound interest. But for product and tech acquisitions especially, it is often about getting the attention of the right people at the acquirer. Sometimes the right person is corp dev, other times product or business unit leads, and other times C-level management.
– Don’t use a banker unless your company is late stage and you are selling based on a multiple of profits or revenues. I’ve seen many acquisitions bungled by bankers who were either too aggressive on terms or upset the relationship between the startup and acquirer.
– Research the potential acquirer before the first meeting. Try to understand management’s priorities, especially as they relate to your company. Talk to people who work in the same sector. Talk to industry analysts, investors, etc. If an acquirer is public, Wall Street analyst reports can be helpful.
– Develop relationships with key people – corp dev, management, product and business unit leads. The earlier the better.
– Don’t try to be cute. Leaking rumors to the press, creating a false sense of competition, etc. is generally a bad idea. Besides being ethically questionable, it can create ill will.
– What you tell employees is particularly tricky. Being open with employees can lead to press leaks and can annoy acquirers. Moreover, some public companies insist that you don’t talk to employees until the deal is closed or almost closed. Employees usually get a sense that something is going on and this can put you in the awkward situation of being forced to lie to them. I don’t know of a good solution to this problem.
– Understand the process and what each milestone along the way means. As with financings, acquisitions take a long time and involve lots of meetings and difficult decisions. Inexperienced entrepreneurs tend to get overly excited about a few good meetings.
– Strike while the iron is hot. Just as with financings, you need to be opportunistic. Waiting 6 months to hit another milestone might improve your fundamentals, but the acquirer’s interest might wane.
– There are two schools of thought on price negotiation: anchor early or wait until you’ve gotten strong interest. Obviously having multiple interested parties makes finding a fair price a lot easier.
– Deal structure: the cap table is an agreement between you and the shareholders that says, in effect: “If we sell the company, this is how we pay out founders, employees, and investors.” Acquirers have gotten increasingly aggressive about rewriting cap tables to 1) hold back key employee payouts for retention purposes, and 2) give a greater share of proceeds to employees/founders. Some even go so far as to try to cut side deals with key employees to entice them to abandon the other employees and investors. In terms of ethics and reputations, it is important to be fair to all parties involved: the acquirer, founders, employees, and investors.
– Research the reputation of the acquirer, especially how they have behave between LOI and closing (good people to talk to: investors, other acquired startups, startup lawfirms). This is when acquirers have all the leverage and can mistreat you. Some acquirers treat LOIs the way VCs treat term sheets, as a contract they’ll honor unless they discover egregious issues like material misrepresentations. Others treat them as an opportunity to get free market intelligence.
– Certain terms beyond price can be deal killers. The most prominent one lately is “IP indemnification.” This is a complicated issue, but in short, as a response to patent trolls going after IP escrows, acquirers have been trying to get clawbacks from investors in case of IP claims. This term is a non-starter to institutional investors (and most individual investors). You need to understand all the potential deal-killer terms and hire an experienced startup law firm to help you.
– Ignore the cynical blog chatter about “acqui-hires” (or, as they used to be called, “talent acquisitions”). Only people who have been through the process understand that sometimes these outcomes are good for everyone involved (including users when the alternative is shutting down).
Finally, acquisitions should be thought of as partnerships that will last long after the deal closes. Besides the commitments you make as part of the deal, your professional reputation will be closely tied to the fate of the acquisition. This is one more reason why you should only raise money if you are prepared for a long-term commitment.