Governance/Risk Management

M&A Tips for the Bootstrapped and Early-Stage Technology Startup

Authors: StartupPercolator

You’ve developed your idea into a business. It’s taken a lot of sweat and hard work, and there have been more than a few rough spots. Acquirers are now taking note and making inquiries. Maybe investment bankers are courting you. You have arrived!! Well, almost . . . .

The acquisition process that starts with these conversations can be lengthy, complex and potentially very disruptive to your business. It takes away significant management attention from the day-to-day operations, and leaks can impact your ability to retain your employees and, potentially, your customers. The longer the process takes, the greater the potential for a transaction to fall through. While the acquisition process is generally well established, time is not on your side. When the acquisition call comes in, you want to be ready. You have limited resources, but by focusing on a few key areas, you can make a big difference in accelerating the process and the likelihood of a successful transaction.

1. Maintain good records on an active basis. Acquirers, particularly serial acquirers, have professional corporate development and/or acquisition teams. They have been through the process many times and approach it in a very systematic and serious fashion. You want to be ready to handle the detailed, lengthy, and invasive due diligence process. The pace can be overwhelming at times, but you can alleviate that dynamic by getting your records “acquisition ready.” We have discussed a number of strategies and tactics for maintaining your records (see “How to Prepare for an Equity Financing,” “Who Really Owns ‘Your’ IP?” and “Maintaining Good Corporate Hygiene“). Ideally, keep these records in an organized and electronic format that’s easy to share and monitor. Consult your legal and financial advisors to find a solution that’s best for you.

2. Maintain credibility. Acquirers don’t expect startups to be perfectly oiled organizations. As you know, problems and issues come up with your business on a regular basis and acquirers know that. Some are less important and some are serious. You may have a disgruntled former co-founder, you may have imperfections or gaps in your IP title, you may have accounting or tax issues—whatever it is, own up to it. Acquirers with professional M&A teams will ultimately dig up these issues. When they do and, particularly, when it’s at the tail end of a transaction, it can be harmful to the relationship, potentially causing the acquirer to revalue your business or, if serious enough, kill the deal.

3. Lean on your advisors. Your key advisors in an M&A transaction are your legal and financial advisory teams. The process can be daunting and complex, and you may not have the benefit of having venture capitalists or other professional board members with significant M&A experience. Talk to your advisors and educate yourself about the process. Set realistic expectations for how long the process will take. Your financial advisor’s job is to create market interest for your business and, ultimately, to maximize your valuation. Both your bankers and lawyers are experts in structuring transactions—broadly speaking, bankers will focus on economics and lawyers on terms and post-closing liabilities. Work with each to maximize your understanding of the process and the deal structure that is optimal for you.

4. Maintain control of the process. There are lots of players and each has its own set of interests. The key players are the executives driving the deal at the acquirer and members of your management team, but there are many other players, including the acquirer’s finance, legal and M&A teams, the bankers, the lawyers and the accountants. In most deals, a working group list is put together at the beginning of the process to allow for good communication among the parties. With all these players contributing to the process, sometimes deals, particularly larger deals, tend to gain momentum of their own. It’s a natural result of the process. As the target CEO, you may find it difficult to run your business and maintain firm control of the process. Lots of decisions get made in the negotiation process, some which you may not even be aware of. To assist you in the process, identify the key executives and advisors who will be your core M&A execution team and meet with them on a regular basis to make sure that the transaction is progressing in a manner you’re comfortable with.

5. Pay attention to the details. When selling the business, the parties typically focus on the aggregate purchase price. However, hidden value or hidden costs can be buried in the deal terms and can have a significant impact on the bottom line economics. For example, is the portion of the purchase price that is paid in stock subject to vesting after closing? If so, under what conditions can that stock be forfeited? Are the indemnification provisions for the benefit of the acquirer outside market norms, and do they expose the equity holders to potentially outsized clawbacks of the purchase price? Ultimately, different terms impact the transaction to varying degrees. Make sure you understand them.

6. Pigs get fat, hogs get slaughtered. Be thoughtful and aggressive (but realistic) in positioning your business in the marketplace and crafting your value proposition to potential acquirers. Anne Perlman at Stifel Global Technology Group shared her perspective on this issue, noting that the universe of the large consolidators may be potentially smaller than it was even five or ten years ago. Accordingly, private companies need to think long before dismissing overtures from strategically motivated suitors. Listen carefully to your advisors. They know the market well, and when an acquirer has a number of potential competing targets to choose from, you want to take reasonable action in light of all the facts available to you. If your acquirer turns negative on the deal and instead decides to buy one of your competitors and if at the same time other potential acquirers have also acquired certain of your competitors, your position as a viable acquisition target may diminish significantly.

How to Prepare for an Equity Financing

We have covered in past FTTWs how to value your startup and how much capital to raise. Once your startup decides to pursue equity financing, you should start to prepare for the investor due diligence process. On the business side, you will need to prepare a business plan and should take steps such as obtaining management references, interviews and background reviews, customer/user references, technical/product reviews, financial statements and business model reviews.

What Every Startup Needs to Know

On Wednesday, June 26th, Perkins Coie’s Palo Alto office hosted the startupPerColator event, “What Every Startup Needs to Know.” Lowell Ness, a Perkins Coie partner in the Emerging Companies & Venture Capital (ECVC) practice, moderated a panel which included Herb Stephens of NueHealth, Thomas Huot of VantagePoint Capital, Jennifer Jones of Jennifer Jones and Partners, Yuri Rabinovich of Start-up Monthly, and Olga Rodstein of Shutterfly.