If you suspect that some of your key stakeholders, such as major investors, board members, or members of your leadership team, would not be supportive of a sale, that could be a good reason to delay initiating acquisition talks until you have had sufficient time to bring those parties further along on the journey. Although unanimous agreement may not always be possible, you do want to minimize the risk of insiders sabotaging your prospects or halting your momentum when you need it most.
Q2 2022 hedge fund letters, conferences and more
A while ago, a company that I had advised sent me a request to sign off on their sale documentation as a shareholder, which they needed within the next 24 hours. I had not received any updates or news from this startup for years. This sudden rush request caught me and most of their other shareholders by surprise. By the time that CEO was able to schedule one-on-one discussions with numerous confused shareholders to explain the situation and own up to past communication shortcomings, they were weeks past the deadline to respond to their acquisition offer and lost their momentum with the interested acquirer.
Breaking The News
As you know by now, an acquisition doesn’t spontaneously materialize when you put willing buyers and sellers in the same physical or virtual conference room. The $150 billion US investment banking industry and thousands of brokers and dealmakers would not have existed otherwise. Those intermediaries and market makers serve important and critical roles in bringing buyers and sellers together and ensuring that deals get done. But you don’t need or want an intermediary to start the sale process for you. You can, and should, do much of the initial advocacy and break the news yourself as you are the best spokesperson for your startup.
However, to capitalize on your leverage and drive toward a transaction on the best possible terms, you need to have a catalyst for the acquisition discussions. That initial approach and the way you inform your potential acquirers about your interest to sell will set the tone, and can even determine the outcome, of your exit.
Consider Your Message and Its Potential Side Effects
Once you make the decision to sell your startup, carefully consider what you would like to convey to your counterparts. Of course you want to impress upon them that you are open to selling your startup. But, and as importantly, you want to indicate that this window of opportunity is not open forever. The news of this development would, of course, be considered a significant inflection point for your startup by anyone who finds out about it. As such, you want to minimize any collateral damage or unintended consequences that may result from it. You don’t want to come across as either desperate or pushy, which could undermine your leverage or put your counterparts on the defensive, respectively. I have been involved in situations when the sudden news of a startup’s interest in a sale caused me, on the acquirer side, to suspend any further conversations around a commercial relationship with that startup on the suspicion that the startup could be running out of funds or facing some other trouble. I don’t think I am unique in lacking enthusiasm for reaching out and catching what I suspect to be a falling knife.
Mind and Mine the Feelings
There are, as you know, no sidewalk signs, virtual banners, or the startup equivalent of an online dating profile that would announce your willingness to sell your startup to the world. But even if there were such means available to you, I would strongly caution against using them, at least not as your initial move. That’s because, in the M&A world, buyers are a sensitive breed and often mirror your feelings about them. So, if you approach them with indifference, which these impersonal methods would convey, don’t be at all surprised when you get the same treatment reciprocated.
Despite their sometimes stoic veneer, acquirers are just as governed by their emotions as the rest of us. They would seldom seriously pursue a deal unless on a deep, emotional level they actually felt good about doing so. And how do you get a buyer to feel good about pursuing your startup? By convincing that buyer that there is a genuine interest by you to sell to that particular buyer. Yes, acquirers yearn to feel special too.
But there is more to it: you want to eliminate any suspicion that you may be using an acquirer to get a better deal from someone else or that you are not serious about a sale. Without that basic level of conviction, few buyers would commit the requisite mindshare and resources to pursuing a major strategic transaction with you.
To convey your genuine interest to an acquirer, you need to share why you think a sale to that particular acquirer makes sense. Do your homework about the acquirer and uncover areas of strategic overlap and operational synergies. Use your potential champions and established contacts within each potential acquirer to validate your assumptions and hypotheses. Although each startup-acquirer pairing can have its unique reasons for being desirable, here are some of the common strategic rationales for a sale that may hold true in your case as well:
1. Gaining broader access to market and customers through the acquirer’s marketing channels and customer funnels
2. Building a superior product by combining complementary technical expertise and financial resources of the two organizations
3. Reducing end-customer costs or expanding profit margins through elimination of redundant operating expenses between the two organizations
4. Improving customer experience or the value of an offering by bringing together siloed networks of users or suppliers
5. Providing broader opportunities for professional and personal growth to employees who join the acquirer
Specifics will matter a lot. The more compelling your reason, the more a buyer would feel that you are interested in joining forces with them; which would then encourage them to spend time, attention, and resources on exploring a potential transaction with you and to stretch beyond their comfort zone (be it around valuation metrics, terms, or operational requirements) to make it happen.
Put the “Why” Before the “How”
As mentioned earlier, you should always lead your strategic discussions with high-level goals. The time to have the big-picture conversation with a buyer is long before there is any mention of valuation or specific terms of a deal. In fact, you should best postpone the latter until after you receive a term sheet from them. You want to ensure that the buyer fully understands why you are interested in selling to them and appreciates the outcome you would like to achieve. The deal terms would then become details of how you could get to that ultimate objective. By prioritizing communication of your strategic interest and mission-driven motivation to a buyer, you maximize the chances of that buyer empathizing with you and putting their best foot forward during the negotiations.
Don’t Play Games
In M&A only interest invites interest, not aloofness or indifference. Since you want your potential acquirers to be very much attracted to your startup, make sure you do your part to convince them of your interest in them. There may come a time to play hard to get, but save that for much later. In the beginning, you want to ensure that a foundational level of mutual interest is firmly established.
Understandably, expressing your genuine interest in selling to a particular acquirer doesn’t guarantee that they will immediately turn around and put an offer on the table. It just gives you the best chance of that potential acquirer taking you seriously. Whether it is a priority for them, and if so, whether they are ready and able to pursue a transaction, is a very different story, and something that is beyond your control.
Have the Right Opening
Before I share my preferred approach to starting the acquisition talk in the remainder of this chapter, let’s consider some of the most common ways sellers start their acquisition talks with potential acquirers:
1. A phone call or email from the founder or CEO announcing that the startup’s board or controlling shareholders want to sell the company, wondering whether the acquirer would like to hear the pitch due to significant strategic alignment between the companies;
2. A variation of the above, except that the stated reason for the call is receipt of an unsolicited offer to buy the startup, inviting the acquirer to participate in what is to become a competitive process; or
3. A variation of either of the above, but this time using an intermediary, such as investment banker, investor, or advisor.
While all such approaches deliver the key messages you would want to communicate to a potential acquirer to start the serious acquisition talks (conveying actionability, urgency, and strategic interest), I would strongly urge you not to adopt them. Here is why.
The Perils of a Direct Approach
None of the successful acquisitions I have been involved in started with the seller directly announcing their intent to sell their startup. Instead, in all those deals the buyers were the ones on the hunt and pleading the case that a sale makes mutual sense. Those startups were bought, not sold. The problem with the common, direct approaches mentioned above is that each catches most acquirers off guard and puts them in an awkward, reactive posture. Often acquirers on the receiving end of such propositions feel that they are being sold and put on the spot, which causes them to instinctively put up their mental guards. Perhaps it is a result of years of suffering from spammers and telemarketers, or because of some deeper, evolutionary origin, but I have yet to meet anyone who welcomes unsolicited sales pitches with excitement and open arms.
And there is the element of buyer timing that your approach needs to navigate. Clearly it is not just your timing, as the seller, that determines the pace of a transaction. Every buyer has their own universe of fire drills, emergencies, and resource constraints to contend with. So even if an acquirer is or would be genuinely interested in buying your startup, it is unlikely they have spare resources available to immediately jump into action and make a run for your company at the moment you hit them with the news of your desire to sell.
Contrary to the popular saying, a “will” does not lead to a “way” in M&A; even when there is a will, you still need to find a way to get the deal done. On many occasions, I have had to walk away as an acquirer from transactions that made perfectly good sense on a spreadsheet or slide deck due to a lack of resources to actually do the deal. Those resources span across business enablement functions of HR, IT, accounting, tax, and finance, who would be critical for conducting diligence and handling post-transaction integration tasks. If you convey your interest and urgency to sell at a time when potential acquirers don’t have the internal bandwidth and readiness to go through with it, that leaves you and your relationship with those parties in a quite awkward and uncertain state. Those acquirers would either immediately bow out or try to delay and drag out a potential transaction until their resources become available, neither of which would be a particularly favorable outcome for you. And recall that the perceived future uncertainty about the faith of your startup would likely cause many potential acquirers to throttle back or even hit full stop on any existing strategic activities with you until your sale process has concluded. Your lack of perfect timing for announcing your sale process may very well end up destroying the goodwill you had worked so hard to cultivate and nourish with some of those acquirers.
So, what we have here is a perfect dilemma: telling your acquirer directly that you are for sale makes them either defensive or evasive. But they would not lean into trying to buy you unless they thought you would genuinely be interested in selling to them. The good news is that there is actually a way out of this particular predicament. And it has everything to do with how you communicate your willingness to sell. If you do it right, you can manage to convince your potential buyers you are open to a sale and have the truly interested parties pursue you when they are able to consummate a transaction. What you want to accomplish is to have the acquirers realize you are open to a sale without putting them on the spot or exerting timing pressure on them when they may not be ready or able to go through with a transaction. To do this, you have to inject a lot more subtlety into your approach.
The Power of an Indirect Approach
My preferred approach may best be referred to as inception, borrowing from Christopher Nolan’s science fiction action classic by that name. And don’t worry if you have not seen the movie. Most of us, by the time we are toddlers, clue into the magical powers of inception and start using it on our parents, siblings, and peers. Here is a case in point. For years, our young daughters shared a constant stream of cute puppy pictures with my wife and me, with the obvious goal of getting us interested in adopting one. They didn’t harass us with incessant requests to adopt a pet. Instead, every now and then they would giggle and come and share a little photo or video of a puppy they found online that they considered super cute or funny. That was inception at work. Our daughters didn’t put us on the defensive with this approach and didn’t risk losing face if our answer to their request was negative. In fact, they knew our answer was no. Yet, they gently turned up the dial on our interest and left it up to us to decide when the right moment to cave in was. And after years of patience, they finally got the answer they were hoping for when we decided to adopt a puppy at the end of last year.
Inception is all about influencing others’ decisions through subtle messages. Our hints and suggestions can plant ideas in others’ minds so that they draw the ultimate conclusions we aim for. This eliminates much of the defensiveness and pushback a more direct approach typically results in, while preserving the relationship if the timing or level of interest for a positive response to the request is not quite there yet.
Using inception as your opener for the acquisition talk would mean that instead of surprising a strategic partner with the news that you have started a process to sell your company, you find subtle alternatives that communicate your willingness to entertain strategic alternatives for the future of your startup, which could very well include an acquisition. You can leverage your board or another objective set of circumstances as a conversation opener and a way to raise the possibility of a potential sale. For example, if your investors have been involved with your startup for longer than five years, you could confide in your counterpart that you are starting to get pressure from your investors to think harder about the strategic prospects for the company including exploring alternative paths to accelerate your roadmap progress. For a more direct approach that also signals your commitment to the partnership you could, for instance, point out that you believe there is tremendous synergy between the two companies and wanted to see whether there are ways to become further integrated and work closer together to capitalize on the opportunity. What you say and to whom will depend on the specific circumstances and particular aspects of your partnership, but what is important is to try to test the waters without applying pressure and escalating the discussions prematurely.
One problem with indirect and subtle hints, though, is that the subtlety may be lost on your counterparts. They may not fully grasp that you are signaling a genuine interest to sell, or even if they get that you are open to a sale, they may not sense your timing or the urgency associated with it. As a result, they may soon forget about what transpired as they move on to more urgent matters.
Although there may very well be others, there is one piece of information that I have found to effectively signal a company’s desire for sale while implying in a nonthreatening way that the window of opportunity is time bound. That information is news about the prospect of an upcoming financing round. Sometimes entrepreneurs convey that information to their network of strategic partners as a way to explore their interest in participating in the round or just simply as a courtesy FYI. Regardless of the initial reason, many of the acquisitions I have been involved in heated up soon after a potential acquirer found out that the target was looking to raise a new round of funding.
Announcing the start of your fundraising process is particularly impactful because it suggests both actionability and urgency. It is as close as it comes to a magical wand you can wield to spur an acquirer to action, especially if you combine it with an invitation for the acquirer to participate due to strategic fit. This is, for instance, what entrepreneur Subbu Rama did when he approached his startup BitFusion’s strategic partner VMware with an invitation to invest. VMware instead acquired his startup within months thereafter.
If, as a buyer, I am interested and able to pursue a target, there is no better time to do so than before it raises a new round. That is because getting the deal done at that time typically allows the acquirer to buy a target at a more reasonable price than after a new round is raised. New investors would demand a higher price than the valuation they just invested in, rationally expecting a return on their investment and would potentially block any deal in the short term as they may have other strategic aspirations for the company. Moreover, the pressure an acquirer feels to act in connection with a fundraising activity is more forgiving and less threatening compared with the pressure that the news of a sale process entails. Fundraising can take six to nine months, and therefore acquirers generally feel that they have more time to navigate and pull the requisite resources together to make a deal happen, whereas a sale process is usually assumed to be on a much shorter time frame. As a result, upon hearing the funding news, interested acquirers jump into action and try to make a case for the entrepreneur to consider a sale instead, whereas they typically go on the defensive and freeze up when they find out that a potential target is actively pursuing a sale.
The reason acquirers feel particularly emboldened to initiate acquisition discussions when you approach them with your fundraising plans is that they rightfully assume that any startup raising money would be genuinely interested in a sale. That logic is simple: whoever is raising a new round is selling somewhere from 10 percent to 50 percent of their startup and therefore should also be open to considering a sale of up to 100 percent of the startup if the price is right. At the very least, fundraising activity gives an acquirer the permission to openly inquire whether an entrepreneur would be willing to entertain an acquisition as an alternative to getting further diluted and thus extending the time to a potential exit by several years.
And for you as the seller, having to go second means that you enjoy the enviable leverage of a company that is being pursued.
This is why breaking the news of an upcoming financing is a fantastic catalyst for acquisition discussions. Use it well by timing it right. As a testament to the inception power of such news, it is remarkable that to this date, I don’t really know whether those targets who have approached me on the acquirer side with such news intended for it to precipitate an acquisition discussion or not. All I know is that in cases where we did have the readiness and desire to pursue an acquisition, we did.
So, in the opening gambit of the M&A chess game, you want to neither be white (where you make the first move) nor black (where you react to the other side’s first move). You want to be gray! That is, you want the other side to make a move only when you are ready for their move and nudge them to do so.
But what if sharing the news of your upcoming financing doesn’t elicit a reaction? That is, what if after sharing the news about your fundraising with your potential acquirers, you don’t see any change in their approach or meaningful attempts to persuade you to consider a sale? To me, that would indicate that you either don’t have the right set of acquirers at the table or that either the timing is not right for them, or you haven’t painted a compelling enough picture for the strategic potential of an acquisition to pique their interest. Of course, you can still try the direct methods mentioned above as a final effort, but know that the chances for a successful outcome at that point would be quite low.
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