Exit Preparedness for Venture-Backed Startups — And Why It Matters
In my 12 years doing sell side M&A, one of my most surprising observations was the fact that very few companies proactively thought about strategic exit planning. While some companies are aimed at an ultimate IPO, the fact remains that less than 1% of start-ups grow into becoming public companies and the other 99% need to consider other ways to return value to the people and organizations who invested money into the company. Over the years, I received numerous calls from CEO’s or investors who told me that Google should buy their company. When I asked them who they were working with at Google a blank stare came across their face — they had never had contact with Google, nor with any other potential acquirer.
In today’s environment, Corporate M&A has shifted its focus to a pipeline model of deal execution — processing potential deals brought to the Corporate Development department by an internal business leader. This increases the need for emerging companies to develop key business relationships with long term strategic buyers. Without a business sponsor at a potential buyer there is no premium deal to pursue. In the case of many large technology buyers like Oracle, IBM or SAP, they will not engage in an acquisition discussion without having an internal business leader sponsor. This person is normally the business unit leader but often the first contact is with someone lower in the organization.This is a change from twenty years ago, where Corporate Development departments led their own deals, searching outbound for potential acquisitions.
Developing these key partnerships takes significant senior management effort and needs to be initiated well in advance as the formation of a partnership often takes at least six months to consummate , but the effort expended is well worth it as it creates the foundation for a competitive transaction which can significantly accelerate the sales process. Furthermore an exit isn’t the only reason to build these strategic relationships. They also serve a company well when moving into growth fund raising, and provide management with an essential negotiation tool: optionality.
Bear in mind that in the case of almost all large exits, the company being acquired was not for sale. The transaction was initiated by a preliminary relationship that developed over time in which ultimately the buyer determined that the target was strategic enough that it shifted from a partnership relationship to an interest in acquisition. When this trigger event occurs, it is optimal that other partnerships exist that can be leveraged to create a competitive M&A environment.
Buyers want to focus on historical metrics to value businesses. However, in a competitive environment, in particular where the target has unique capabilities, the possibility of shifting valuation to a multiple based on future revenue becomes increasingly more likely.
At Inovia we share this philosophy with our portfolio companies early-on in their life cycle to ensure this ‘ecosystem’ mapping is a key element of our management team’s planning process.
In summary, exit preparedness is crucial because it provides optionality for startups, even those whose goal is to IPO and grow forever rather than be sold to an acquirer. In today’s deal-flow-oriented environment, M&A deals emerge from pressures within senior management at acquirers, therefore companies with good working relationships with those acquirers are the ones more likely to be acquired. Developing those relationships with potential acquirers should be a goal of every startup, so that when the desire to acquire emerges, an acquirer has an obvious favourite to focus on. In this way, the chance of the very desirable situation of a competitive bidding war for the target company is made more likely, leading to greatly increased exit valuation. In short: Do business with your acquirers so you are in their focus when they decide to acquire in your space.
