Hot Take #1: TechCrunch on Startup M&A
Applying the MBP to a popular post on the topic
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There are a number of popular articles on startup M&A. In our Hot Takes section we’re going to apply the Magic Box Paradigm framework to some of them and see where we align, and where we diverge.
One piece that does very well in the startup M&A search rankings is on TechCrunch: A timeline for startup M&A processes: Key steps and factors to consider by Vishal Lugani GP and co-founder at Acrew Capital. A good portion of this piece is behind a paywall, so you’ll have to pony up to read it in its entirety - but hey - we’re in the paywall business as well, so we get it!
Lugani does a good job expressing how slow this business is. I’d say it’s actually slower than he suggests! Developing actionable relationships with Potential Strategic Partners (“PSPs” in MBP speak) takes time, a lot of time! In fact one of the four core principles of the MBP is: Startup acquisitions take time. Most startups wait far too long before developing meaningful relationships with PSPs.
Many founders think startup M&A works like startup fundraising. That there’s an efficient market of buyers and what you need to do is get in front of them, and some number of them will like you, and the ones that do will make offers to acquire you. But, sadly, that’s not how it works.
The PSP acquisition market is highly inefficient. PSPs would rather not acquire startups. They only do so when they have absolutely no other way to get where they want to go. It’s a buy-side driven business and you have to position yourself to be acquired by a highly-motivated PSP vs. run a process to be sold to an unmotivated one.
Getting to know PSPs
Lugani makes the point that too few founders prioritize developing relationships with PSPs. I couldn't agree more with this. In fact, I’d make this point first. The piece is framed by the notion of a “process” which is a helpful way to organize the concepts, but in reality startup M&A very rarely conforms to anything close to a linear progression. Where Lugani says “Get to know your acquirers before the process” - I’d say “Getting to know your acquirers is the process.”
This isn’t to say there aren’t times when a startup has no choice but to press the issue with PSPs. The MBP book has an accompanying Spellbook called Running a process the MBP way but a “process” isn’t the ideal way to go. Ideally the startup is, in the regular course of its business, developing an increasing number of deep relationships with PSPs - and some number of those relationships will evolve into actionable acquisition opportunities.
It’s not about when the startup wants to sell, it’s about when PSPs want to buy.
Lugani makes a really important point when he says “Acquirers have a broader set of plans at play.” This is the crux of the matter. Everything hinges on what those “broader set of plans at play” exactly are. Said differently, what is the Partners’ Big Idea (in MBP speak “PBI”)? The PBI is the power source of the acquisition. It’s the big idea the partner is pursuing, an idea that features your startup as a critical component in its fulfillment. It’s the “why” of the deal and you need to be intimately familiar with it - in fact you need to help build it.
Lugani expands on this point with some great additional context when he says:
To this end, it’s critical to understand why an acquirer wants to buy your company. Is your company getting bought for its product, business or team? … For example, are there other options on the market that the acquirer could pursue, including simply building what they want themselves?
In MBP speak these would be the Methodology and Execution layers of the PBI (with the “broader set of plans at play” being the Opportunity layer). Where does your startup fit in the PSP’s plan to fulfill the PBI? What other options (besides acquiring your startup) does the PSP have available to them?
Now we’re talking about scarcity, and as we know from the MBP, startup valuation = opportunity/scarcity. What other options does the PSP have available to them? If you are the only one then your scarcity denominator goes to 1 and you can claim a large portion of the opportunity numerator. However, if you are one of many possible ways they could advance the PBI then your scarcity denominator goes up and your value plummets. As Lugani says in relation to the buyer’s view of your utility and scarcity: “Do you understand your relative position in the negotiation?” That’s right on.
PBIs, deadlines, competition, and offers
There’s a bit of a miracle-happens-here aspect to this piece. We need to fill in the miracle. Spoiler alert: it’s the PBI. Lugani’s approach kind of jumps from essentially: 1) get to know PSPs; to 2) receive offers. But there’s a critical step in the gap between those two. The progression should actually be: 1) get to know PSPs; 2) develop PBIs; 3) receive offers. Step 2 being the most important step. The startup team needs to work with each PSP to help them develop an actionable PBI. A PBI into which the startup fits.
Lugani hints at forcing function strategies like the use of deadlines. These are to be avoided. Closed-ended processes with deadlines for participation should only be used as a last resort. If you’re trying to develop urgency do so by developing so much organization momentum in the PSP around the PBI that they just can’t see any way forward other than buying your startup.
There’s also a bit of hinting around competition. Competition isn’t the ideal driver of price in startup M&A. Optionality is great and you want to have as many strong PBIs with as many high-value PSPs as you can. However, your optimal value will come from the outlier among them (the PSP who just needs you more than the others), not from the competition between them. In addition, competitive dynamics actually work to reduce competition! As soon as a genuinely interested PSP knows there are other interested PSPs they are going to do everything they can to lock you up in an exclusive period. Don’t decloak your options - develop each in parallel and pick from the best of them.
Offers derive from the last layer of the PBI: Economics. How is the PSP’s economic model enhanced by the acquisition of your startup? The price they will be willing to pay is essentially the present value of your contribution to their strategy. You actually don’t want to get an offer if that hasn’t been framed out - as you’d probably leaving a lot of value on the table.
The miracle we’re filling in is the magic in the box. It’s the fully formed PBI that compels the PSP to make a strong offer. Line those PBIs up, use the confidence you have from developing lots of options to push each to their max, and pick from the best among them.
Turning the three M&A keys
Lugani nails it when he articulates the three key stakeholders in a startup acquisition:
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