Distilling The Bottom Line Of Central-Eastern European Startup EXITs (Part 1)

What is the investment thesis validated by actual exits?



What is an investment thesis?

When thinking about an investment decision, one has to define what is the expected outcome of the investment. Moreover, what is the logic, how this outcome will be achieved? I am twisting this rationale for this set of posts.

Step1: Collect Central-Eastern-European venture exits. HERE
Step2: Discover the key patterns behind the sample exit cases.
Step3: Sum up the most common company roadmaps and the strategy followed.
Step4: Based on conclusions, make the investment thesis explicit and applicable.

Comment1: Of course, my sample size and depth of data at this step is not enough to draw deep conclusions. Likewise, it would be even more fascinating to see which investment models failed at large. Still, I believe that playing around with contrasting company roadmaps clarifies some key trends in the early-stage regional market.

Comment2: This exercise obviously undervalues the enigma of radical and unpredictable breakthrough companies. These epic successes are overwhelmingly well-documented. So, let’s focus for now on the systematic bottom-up approach.

What is bought?

To distinguish sources of growth I prefer to use the clearcut veteran Ansoff model. This categorization separates the four major sources of growth representing the four key reasons behind acquisitions.

Of course, criticism and improvements to the model can be found all around the web.

When they enter the market for the first time, all companies start from the Market Penetration Strategy stage. By gaining market share and embracing their product, they execute a Diversification Strategy. This makes them able to own a significant market share through a constantly evolving and unique product.

In this analogy, companies can be acquired for four main reasons from the buyer’s perspective:

1. The valuable assets they already have, which are transferable to the buyer. Their people, their IP rights, and the combination of the two.
2. Complementary product and technology developed.
3. Market share they posess or what they have cheaper (or any) access to.
4. Combination of a matched product and a sizable market penetration, which can add a horizontal or a vertical integration to the buyer’s existing product portfolio.

In this series of posts I will cover these four categories, starting with acqui-hires.

Why to buy the cow, if you only need the milk?

The evident answer: Acqui-hires

Case in point: Distinction purchased by Sckyscanner and SequenceIQ picked up by Hortonworks.

Distinction

The acquisition of Team Distinction, the Budapest-based 30-strong team of talented mobile designers and developers was intended to fast-track the leading global travel search provider Skyscanner’s growth of its in-house mobile team. As a result of the deal — terms of which were undisclosed — the Budapest office became Skyscanner’s main mobile hub, where the existing team continued to be based. The companies worked pretty closely since 2011 leading to the pickup in 2014.

“This acquisition is an amazing opportunity for our whole team to use everything we have learned so far in working with global brands and to craft the future of online mobile travel as part of Skyscanner. Having worked closely with Skyscanner’s product teams since 2011, we’re thrilled to have the opportunity to focus our efforts within such a great organisation.”
Balint Orosz, co-founder and CEO of Distinction became the Head of App Product at Skyscanner.
hwsw.hu
“The team at Distinction, are some of the best app developers that I’ve ever come across. In working closely with them on the design of our hotel app, we saw how focused they were on the user experience. They have built a fantastic company with a great culture, and as part of our combined team, will focus on creating the mobile travel assistant that future travellers will need.”
Gareth Williams, Skyscanner co-founder and CEO via TechCrunch

SequenceIQ

Hortonworks (NASDAQ: HDP), the leading contributor to and provider of the big-data enterprise software Apache Hadoop acquired the Budapest-based SequenceIQ in April 2015. The ink was just about to dry on their certificate of incorporation, when the transaction closed a little more than a year after the company’s foundation in February 2014. With its founders trained at the Central-European success story EPAM, one of the novelties of SequenceIQ is that they provide open source rapid deployment enterprise tools for Hadoop as a full service. On any cloud infrastructure platform across the entire lifecycle, from proof-of-concept to development, test and production, you name it. Their technology is able to deliver a consistent and automated solution for launching on-demand Hadoop clusters in the cloud or to any environment that supports Docker containers. The terms of the deal were undisclosed.

“This acquisition complements our strategy of providing enterprise customers the broadest choice of consumption options for Hortonworks Data Platform, from on-premise deployments to cloud architectures.”
Rob Bearden, chief executive officer of Hortonworks
Another lookalike cases in Central-Eastern Europe are Wowd acquired by Facebook in 2011, Instinctiv acquired by SoundCloud in 2012, and LevelBit acquired by TabTale in 2015.

Road to EXIT: Acqui-hires

Acqui-hiring (a portmanteau of “acquisition” and “hiring”) or a talent acquisition is the process of acquiring a company to recruit its employees, without necessarily showing an interest in its products and services — or their continued operation. Wikipedia

As many stated already (for example here, here and here), the young age of the Central-European startup ecosystem makes it a natural subject for acqui-hires. Transactions in which the key assets changing hands are usually engineers. What is the typical evolution of the local ecosystems in Central-Eastern Europe?

1. Easy-to-access yet superb technical talent, and low barrier of entry to the software market encourages a serious crowd of developers to launch their own product.
2. The transformation from being an outsourcing hub to an independent startup ecosystem eventually puts state of the art developer teams on the global map of tech.
3. These teams provide inexpensive but highly capable alternatives to their US counterparts. If they are in the right industry in the right time, this leads to rapid talent acqusistion.

As unhealthy as it sounds, actually this phase is an important one in developing the ecosystem. These experiences turn geeky engineers into aspiring serial entreprenurs who circulate their exit procceeds lettig new ventures flourish, and start new ventures themselves.

Yet, it is rarely a raw black and white case whether an exit is actually an acqui-hire. Even though no exits are de facto presented as acqui-hires, there are unspoken signs suggesting the diagnosis:

  • exiting early on, often within a year from start;
  • after the transaction, shutting down third party contract work completely;
  • founders and the entire team integrated into the buyer company, often as a solitary department;
  • purchase price in most cases is undisclosed.

No doubt, the lay of the land can be the similar for other types of exits too, but the combination of the these definitely gives a hint about an acqui-hire.

The Investment Thesis

Not many opportunistic investor intends to exit his investment through an acqui-hire though. These early exits are usually not as beneficial financially as a company sold at its full potential. Simply put, unforeseen exits can hardly be the objective of any investment thesis.

If you learned something useful, stay tuned, Part 2 is coming soon!


To get in touch, tweet @what_ev_r, follow me here, or just email me at luca.keresztesi@dayonecapital.com!

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