The acquisition process might feel like a million years away.
You may have been dreams of being bought out by Google.
However, what’s the journey leading up to point of selling your startup or being acquired? How do you navigate the process when the opportunity comes knocking?
Are you considering an exit 5 years from now, a year from now, or possibly at the time of reading this?
Here’s what you need to know, (perhaps before you need the knowledge), so you can be fully prepared to navigate a successful acquisition. There is a process to acquisition and pros and cons that need to be carefully weighed.
What is a startup acquisition?
A startup acquisition is essentially the act of a bigger, established company buying a relatively newly-founded, and high-risk company. This generally happens when the company has gained traction.
How do startups get acquired?
There are multiple ways avenues of startup acquisition:
- Investor(s) within fundraising rounds
- Larger companies/industry giants
- Established startups
- Investment/private equity firms
Why do large companies acquire startups?
Larger companies tend to slow in innovation potential. There are some companies that dedicate resources to building internal teams dedicated to “intrapreneurship” related projects and growth hacking. However, the tendency is that in-house innovation and high-risk experimentation level out with expansion.
Large companies can override the work and risk of creating new technology and solutions by purchasing the startups that have already built them.
Why do startups acquire other startups?
Startups acquire startups for talent pools and culture.
The culture of a new startup is a zone of disruptive thinking, ideation, and strong relationships.
Talent in these respective startups is made up of people that have unique/varied experiences, are willing to innovate on a quick development timeline, and are scrappy in learning and finding answers.
All of these factors bode well for an established startup to gain new “lifeblood”.
What are the types of acquisition?
This is related to the above points regarding why large companies and startups prefer to acquire.
Understanding these acquisition types helps you understand what the future looks like for your company and team.
Acqui-hiring: A company purchases a team in order to pull in its fantastic talent pool, rather than the product or service in question.
Synergy: A company wants to pull in a company to improve cash flow and combine abilities. They can wield this to become an all-in-one service business or control the supply chain.
Portfolio management: An investment firm may seek to pull in a handful of companies that have the power to grow and appreciate in value over time.
Defense: A larger company wants to pull in high-growth “little guys” to maintain a monopolistic hold on the market. This is typical of industry “giants” like Google and Facebook.
Intellectual property: Essentially, the company would rather purchase the idea than spend time on creating, researching, and developing the same solution in-house.
Market segmentation/entry: The parent company is seeking to acquire to reach new customers in a new segment.
What are the pros of acquisition?
Simply put, facing acquisition means that you’re on the right track. Whether it’s based on your winning team or game-changing product or service, you have what another company wants.
This puts you in a place of power, whether you realize it or not. You’re in a spot to negotiate your price and accept offers on your terms.
At the point you are successfully acquired, you undeniably boost your reputation in the industry space. With a successful exit, your ability to negotiate future deals is strengthened. Others will look to you for advice and be willing to follow and buy into your future endeavors.
What are the cons?
Companies looking to acquire will typically have established lawyers on hand to leverage in creating and negotiating a deal.
I go more in-depth on this point in the section below on evaluating a deal…
It’s best to be aware that companies can negotiate you toward selling for as little as possible.
Additionally, beware of signing a letter of intent too early in navigating and evaluating offers. A letter of intent tells the interested party they are the preferred offer and gives them power in the negotiating scenario.
Finally, if you do not do due diligence in your research, you run the risk of doing a deal with a company that has a misaligned vision and mission, and a toxic culture that can extinguish what you’ve built.
When should I sell my startup?
Great question. There are many factors that are part of the conversation.
The reason I hear most often as a startup consultant is that the founding team has led the startup as far as they can. They need someone else to take the lead. They see the opportunity in their startup, but they don’t have the resources, stamina, and manpower. This is especially the case if you’re a company with a long product roadmap.
The second key reason is that the startup is not doing well. There may be a lack of funding and resources, a standstill in sales, or poor timing. Startups can consider selling at the midnight hour while times are tough, however, this is not the ideal setup to sell. (Especially if you’re not paying yourself as a founder or founding team.)
Ending on the positive note, it’s time to consider selling when you’re in the best spot possible and a delicious deal (or multiple) is on the table.
How do I get an acquisition deal?
It honestly starts with you determining your unique vantage point, the potential impact of selling, and your motivations.
- Why are you looking to sell? (Are you looking to make an exit or build a legacy?)
- How does acquisition fit into the game plan?
- How do your team and co-founders fare in this process?
- What is your exit strategy?
- What are your company goals?
- What role are you going to play in the future of your acquired company?
From there, it’s a lot of research and careful calculation.
One of these careful calculations is doing the necessary number-crunching of your key metrics. This includes your MRR, CAC, number of customers, etc. (I share a breakdown here of how to calculate your core startup metrics.)
Your startup is the show pony that you share with potential buyers at this stage.
Depending on your situation, it may be advisable that you hire an M&A (merger and acquisition) advisor or firm in your search and preparation process.
Another option to consider is posting your company details to the MicroAcquire, which allows you to cut out the middlemen and brokers in attracting buyers and offers.
How do I evaluate a deal?
Maybe you already have a deal. Awesome!
From here, you need to ask a lot of questions and give careful consideration.
To what extent will the deal lead to greater success? You’ve poured your blood, sweat, last pennies, and midnight-tears-over-your-keyboard for this idea.
There can be huge downfalls for selling out your company to an entity that really isn’t the right fit.
What do I mean by this?
First, the prospective company may not mesh with your culture. They may be toxic, which ruins everything you’ve built. Culture takes time to build. Integrity is everything. When a company loses integrity and honesty, there is little to reverse this.
So, is the company a fit? Do your due diligence and research this.
You can find this out through interviewing executive team members and doing surveying.
Secondly, in the acquisition, companies will tend to work their resources to the point that they pay you as little as possible. (I allude to this above in talking about the major cons of acquisition.)
You don’t want to be caught being outmaneuvered.
Founders will sometimes take the first deal on the table, not line up other offers to negotiate, and set themselves up for a low-ball offer.
In order to combat, it’s advisable to pass on the first 1-2 offers. (Where one offer comes, another will follow.) It’s especially critical to scrutinize the first few deals when you are a founder/founding team that is not currently paying yourselves. (How sweet is the pot, really?)
Negotiating from the side of desperation can spell disaster.
How much do startups get bought for?
The acquisition price you’ve calculated and negotiated for your company is based on valuation, which is tied to ARR.
A product company is worth more than a service company. In any case, very rarely will a company have a 20x + value at sale.
You’re likely to get a handshake on the sale price you set if you can show the buyer that they will meet a hefty ROI in the next 3-5 year time span.
Essentially, you need to back up your valuation. If your valuation is $500 million, you need to be able to show the realistic path to that.
This may require more than spreadsheets. Your prospective buyer may apply a microscopic lens to the business operations to see what growth occurs on a month-to-month basis.
How long does a startup acquisition take?
Acquisition typically doesn’t happen at a fast pace.
When talking about the purchase and selling of companies, it makes sense to calculate a longer timeline. It’s not a process to be rushed, but it shouldn’t take longer than a year.
As such, anticipate that you should spend around 6 months. Here’s a birds-eye view of the entire acquisition process.
There will typically be a couple of months to search and line up your offers with your broker.
Then you enter a phase of negotiating and reviewing term sheets. Plan for at least 30 days here.
Then you work through due diligence for 1-2 months.
Finally, you’re at the stage of renegotiation and finalizing offers that may take a couple of months before closing the deal.
This timeline can change, especially if you use a different avenue to field offers, like MicroAcquire.
What happens after a startup acquisition?
In the event of a successful exit, you have a number of options available to you as a founding team member.
You can work out a royalty deal on future sales of products and services or negotiate contracts for current team members and employees. Additionally, you can position yourself to stay on as an advisory board member. Finally, you can work out a deal on stock options.
Beyond that, having a successful exit can then leave you free to focus on other business ideas and pursuits. Depending on the exit deal, you may be able to effectively make financial arrangements personally and plan for retirement.