Posts from acquisition

We are getting to the end of the series on M&A. Two more M&A Issues to talk about and then I am done. The final two are consideration and price. Today I'll talk about consideration and next week I'll talk about price.

Consideration is the way in which you and your shareholders will get paid. The most common way to get paid is cash. The other common way to get paid is in the buyer's stock. You may also get paid by accepting a note (an IOU) from the buyer. And of course, many transactions include more than one form of consideration. A combination of cash and stock is very common.

Cash is the best way to get paid in most cases. You know exactly what you are getting when you get paid in cash. If the purchase price is a signficant amount of money to you and your shareholders, I would almost always prefer cash. If you've created a lot of wealth with your company, why risk that wealth on someone else's company?

Stock is the best way to get paid if you are selling your company relatively cheap but you are a big believer in the upside of the buyer's stock. A good example of this are sales of young companies to fast growing privately held businesses. When Ev Williams sold Blogger to Google, the Blogger shareholders got privately held Google stock which appreciated a lot when it eventually went public. When Summize sold its twitter search service to Twitter, the Summize shareholders got Twitter stock (and some cash) and that Twitter stock has appreciated significantly since. In these kinds of transcations the Blogger and Summize shareholders would not have made much of a return if they had taken cash. By taking stock, they turned their company sales into fantastic transactions.

There are situations where the buyer will require the seller to take stock. It might be because the buyer doesn't have sufficient cash to make the purchase. Or it might be because the buyer wants the seller to be aligned with the buyer and incented to stick around.

If you are accepting stock as consideration, you need to be careful to evaluate the short, medium, and long term potential of the buyer's stock. Back during the first Internet bubble, we sold one of our portfolio companies for stock in another company. We did diligence on the buyer's company and knew that it was weak and in trouble. But so was our portfolio company. Three months later, the buyer went under and we lost our entire investment. We probably would have ended up in the same place if we didn't sell. But I tell this story so that you all understand that taking private stock can be risky. It is not an exit unless the stock is public and liquid and you can sell immediately and turn it into cash.

Selling for public stock is a lot different than selling for private stock. Public stock is a lot closer to cash, particularly if there are no restrictions on the seller's stock. If you get public stock with no restrictions, you can sell immediately and turn it into cash. Or you can hedge your stock with puts and calls and take a lot of the risk out of the position. Or you can put in place a regular selling program. If you are selling your company for public stock, pay a lot of attention to the restrictions the seller wants to put on your stock. And resist them as much as you can.

Taking a note from the seller is not very attractive. A note has very little upside (compared to stock) and it is not immediate cash. With a note you are still taking risk that the purchaser could falter and not be able to pay the note. It is true that a note will not fluctuate with company performance like stock. If the purchaser remains in business and solvent, the note will be paid at face value with interest. We've received notes as consideration in a few situations over the years but it is very rare in the venture capital and startup business. As a matter of practice, I like to avoid them.

In summary, you can get paid in multiple ways in an M&A transaction. Cash is usually best and is also the most common. Stock is attractive if you believe there is a lot of upside in the purchaser's stock or if it is public and immediately liquid. A note is the least attractive form of consideration and also is rare in the venture capital and startup sector.

For the past month we've been doing M&A Case Studies on MBA Mondays. It's time to go back to the basics of M&A. I laid them out in this post. For the next few weeks, I am going to discuss each of the key issues in detail. First up is the integration plan.

The integration plan is the way the buyer plans to operate your business post acquisition. You should get this figured out before you sign the Purchase Agreement. You are going to have to live with the results of the integration and you had better buy into it before you sign your company away to someone else.

There are two primary ways a buyer can "integrate" an acquisition. The first way is they mostly leave your company alone. Examples of this are Google's acquisition of YouTube, eBay's acquisition of Skype, and The Washington Post Company's acquisition of Kaplan (one of my favorite M&A cases). The second way is they totally integrate the company into their organization so you cannot see the former company anymore. Examples of this are Google's acquisition of Applied Semantics, Yahoo's acquisition of Rocketmail, and AOL's acquisition of our former portfolio company TACODA.

And, of course, there are many variations along the spectrum between "leave it alone" and "totally subsume it." In my opinion, consumer facing web services should largely be left alone in an integration. On the other hand, infrastructure, like Doubclick's ad serving platform, is best tightly integrated.

The other critical piece of an integration plan is what happens to the key people. Do they stay with the business? Do they stay with the buyer but focus on something new? Do they parachute out at the signing of the transaction?

I believe the buyer needs to keep the key people in an acquisition. Otherwise, why are you buying the company? So letting the key people parachute out at the signing seems like a really bad idea. That said, the buyer also needs to recognize that great entrepreneurs will not be happy in a big company for long. So most M&A deals include a one or two year stay package for the founder/founding team. That makes sense. That gives the buyer time to put a new team in place before the founding team leaves.

Generally speaking, I think it is a good idea for the key people to stay with the business post acquisition. This provides continuity and comfort in a tumultuous time for the company. However, I have seen situations where the key people went to other parts of the organization and provided value. Dick Costolo left Feedburner post acquisition by Google and focused on other key issues inside Google. Dave Morgan left TACODA and focused on strategic issues for AOL post the TACODA acquisition. This can work if there is a strong management team left in the acquired business post transaction.

Another key issue is how to manage conflicts between the acquired company and existing efforts inside the buyer's organization. This happened in Yahoo's acquisition of Delcious. Yahoo had a competing effort underway and they left it in place after acquiring Delicious. This resulted in a number of difficult product decisions and competing resources and a host of other issues. I think it was one of many reasons Delicious did not fare well under Yahoo's ownership. You have the most leverage before you sign the Purchase Agreement so if you want the buyer to kill off competing projects, get that agreeed to before you sell. You may not be able to get it done after you sell.

These are some of the big issues you will face in an integration. There are plenty more. But this is a blog post and I like to keep them reasonably short. Take this part of the deal negotiation very seriously. Many entrepreneurs focus on the price and terms and don't worry too much about what happens post closing. But then they regret it because they have to work in a bad situation for two years and worse they witness the company and team they built withering away inside the buyer's organization and are powerless to do anything about it. It is a faustian bargain in many ways. But you don't have to let it be that way. Get the integration plan right and you can have your cake and eat it too.