Originally posted on Medium Jun 29 2019
It’s estimated about 92% of startups fail within the first three years of operation.
Among the startups that fail, there are plenty of solid businesses that have been built, but all without delivering the much desired head spinning growth that the founding team members had been anticipating. More often than not, it follows a pattern like this — the founders run out of steam, the team losing energy and motivation, which leads to cracks emerging in the business, customer service deteriorates, sales stall, customers leave, the team breaks apart and eventually the business coming to a halt. If only we could have a solid, timely exit plan for startups that are no longer on the path to becoming unicorns. Oh, and we do, but first…
When to sell
There are three common scenarios for selling the company:
- Business is going great and you get an offer you can’t refuse,
- Business is doing ok and you find a strategic buyer / partnership that will help both parties,
- Business is not doing great, stalled, etc. and you need to find a place for your team/you to land.
While the each scenario is very different, I would argue that the process described below should be applied for all. Engaging in acquisition talks is risky for early stage startups —often it's impossible to isolate your team from the process given the small size of the team, the process creates immense uncertainty for the team about where the company is going and what will happen, and it distracts you from growing your business. You want to keep the acquisition process as short as possible, and increase the chances of the deal succeeding. Running a tight process and keeping control over it is what helps you achieve that.
(Part of) My Story
I founded my company in 2012, initially had wonderful results, was fortunate to be admitted to 500Startups accelerator Batch20 in San Francisco, pivoted along the way, had great product traction with schools like Georgetown, Westpoint, UC Berkeley, Oxford, Cambridge, and London Business School. But there was a big hurdle ahead — how do we go beyond the initial signup of more than 1 customer per month? How do we scale sales?
I tried everything for more than a year. But whatever I tried it did not seem to get me closer to a hockey stick like growth. That said we were on track towards profitability, and could build a solid business out of it. There was one issue. I realized — as a single founder I could see myself running out of energy soon. After all I had been grinding at it for five years. Myself and my team had the goal of making a major dent in our industry and becoming a modest growth business would be a disappointment. So that was it, the only option was closing the business. Or so I thought.
I talked to each and every investor on my cap table. I asked what they would do. Many sensed that my batteries were running low. The most experienced of my investors advised against attempting a sale, they just couldn’t seen it being pulled off at such an early traction stage.
I didn’t want to admit defeat, close the company and distribute to investors whatever is left in the bank. I was eager to see the product live on and thrive, and was looking forward to the team finding a good place to continue work regardless whether I get something out of the deal or not. I think many founders can relate.
I decided to proceed anyway. I had an advantage over most founders — I had 9 years of prior M&A and corporate finance experience.
Soon there was one established US market player showing lukewarm interest to partner up and maybe do M&A at some stage. I knew it would be doomed to fail if I continued the cooperation talks with them. Instead, I had to create a competitive bidding process out of thin air and hopefully create FOMO among buyers. Fast forward 6 months later and the deal was closed. Even when things are looking grim, you don’t need to throw in the towel and give up — there are options.
Here’s some typical advice — nurture a relationship with a potential acquirer, which might lead to an acquisition a couple of years later, I hear this all the time when speaking to investors or M&A advisors. It’s easier said than done. As a founder know very well that during the hectic rollercoaster ride you don’t have the luxury of time to meet up with potential acquirers, even if nurturing a relationship might pay off sometime in the future.
Here are my tips on getting to an acquisition in 6 months:
- Creating your list. Start by putting together a list of prospective buyers. They could be, for instance, later stage startups in your space, or established traditional companies who know they cannot innovate due to their sheer size and bureaucracy. You will need to craft a pitch that is tailored to each segment.
- Craft your email templates. Now you need to reach out to your list. Take time crafting the perfect email. And then craft 5 more follow up emails that you can have sent out automatically if no response. (consider tools like Yesware, Reply.io, Followup, Boomerang) Here is the actual email I sent to my list:
3. Create a timeline. Plan out your M&A process, create your timeline. If your lead is interested, the question “How do you see next steps” will come up during the initial calls. You MUST STAY IN CONTROL over the process. You don’t have any leverage over your prospective buyer — they have more resources, you have less; they can wait it out, you can’t.
4. Set expectations for timeline. But how do you state the deadline by which they must send their term sheet in without coming across as a douche (or worse, desperate)? Easy — you say: “You know much better than me how distracting an M&A process can be to any business, let alone such a young company as ourselves. We don’t want to bring unnecessary uncertainty within the team. Therefore we need to make the M&A process as short as possible, and go back to full focus on our customers as soon as possible. Therefore, here is the timeline. Does it sound reasonable?” Then you need to get them to commit to the timeline.
5. Back to back calls. Organize the reach out like a sales process and stack the demo calls back to back. This will allow you to circle back with leads and drop hints how their competition is interested in you. But just as importantly this will allow you to stack your face to face meetings in one roadshow. Which leads me to the next tip.
6. Meet your leads in person. Nobody will make an acquisition before meeting the founders, or founding team face to face. Turn on your crazy passion mode and sell yourself. Passion is contagious. It should make business sense to make the acquisition, but making your counterpart feel like they want to work with you and your team, is what will make or break the deal.
7. Avoid determining value of your startup. Then your lead will ask you “What is your / your investor’s expectation on the deal’s price and terms?” Forget about valuation assumptions, revenue multiples, or discounted cash flows. You want to get market price for your startup. But the only indicator for market price is what a buyer paid the seller. So the deal price is mostly a function of how much of a competitive bidding process and FOMO you can create in your process — see tips 1–7.
8. Keep the momentum going. Once you have received your term sheets, you will need to pick one or two. What comes next is a few months of exclusivity period where the buyer is kicking the tires of your startup — they are doing technical, legal, financial due diligence. The biggest risk at this stage is for the momentum to die off. And there is a good reason for that — the conversation goes from discussing a rosy future working together to “what about this risk, that risk?”. The initial in love phase is over.
My buyers were in the US, while I was in an 8 hour different timezone in Riga, Latvia. So I had to resort to extreme measures if I wanted to keep the momentum alive. You know the ringtone for your morning alarm? I set that tone for all my incoming emails. So every time I got an email during the night, I would wake up, open up my laptop, respond to another “problem” that the buyer or their advisors had found, and go back to sleep. The drawback was that I got 3 weeks of pneumonia as a result, but only after the deal was closed.
A founder's life can feel isolated. So it helps to have a strong peer network. As I was a single founder, this was crucial for me. The person I confided with my fears, doubts, anxieties most often was Ragnar Sass. I am forever grateful to him for helping clear my mind, shaking me up when needed, and push forward. He is an amazing dude — having co-founded and built Pipedrive to what it is today, and gone through the craziest ups and downs — I recommend watching him tell his crazy story on stagehere — starting from 17:00.
Now that you have vented, cleared your mind with the help of your peer network, the communication just begins. To make the deal happen you need to communicate all the time with investors, each team member, let alone the constant back and forth with prospective buyers.
For example, before deciding to go along with the sale process and before having any interested buyers, I had a conversation with each investor (and I had 16 of them) — I laid out what I had tried to date, what our outlook was like, and what were our options:
- continue with modest growth and reach break even,
- close and distribute funds to investors, or
- attempt a sale process without knowing the outcome.
Going in to those meetings was emotionally tough for me. I felt like I was letting them down, as the prospects of 10x returns for investors were dim. But I needed to have those tough conversations, and do that in person where possible. That is how I would want to be treated if I was in their shoes. Looking back I am surprised how supportive and chill my investors were. In fact, they contributed immensely. I thought I would be an emotional wreck after these meetings, but in reality I accumulated the much needed resolve and energy to push as far as needed.
Hiring a banker
Investment bankers / brokers can be expensive (2% to 10% of deal value plus often a retainer), and they will largely focus on late stage tech companies or traditional sector deals where the deal size is largest and the likeliness of closing the deal is higher. From my experience the approach to sell an early stage startup is very different from the M&A process for later stage companies or traditional sectors.
But having someone experienced to help design the process, run it, help negotiate terms, understand who are the decision makers at the potential acquirer, know what buttons to push to maximize the chances of deal succeeding and get the best deal can be extremely valuable.
So that is how I managed to complete my exit in less than 6 months, and for an early stage startup, statistically speaking, it should have just run out of steam and died.
Since my exit I feel so much more at peace, calm; the anxiety has vanished, I feel happy. And I have already moved on to the next project and doing what I have found my passion — building new products, taking them to the market, hitting the wall, trying again and again.
Big thanks to Janis Krums who contributed to this post, and all my investors who have been so supportive throughout this journey.