- Are you recording now?
- Yes, recording.
The reality is like, we sold our company
because the company was (bleep)ed.
- Yeah.
- We were out of money.
This is why you really sell your company.
You made something good and then you're not growing.
You can't raise more money. The company's going to die.
- (sighs) Yeah, but sadly, what's happening is
you always get approached when your company is growing,
it's doing super well, and you don't really need anybody,
and that's the time when it's
probably the best time to sell.
That's the classic problem.
- That's the conundrum! (laughs)
It's okay, though, this video is to help you
figure out how to actually get it done.
- And remember, companies are not sold, they're bought.
- Welcome back, guys.
This week on our channel,
we're talking with my partner, Andrew Lee,
we're talking about M&A.
How do you actually get your company sold
for millions of dollars?
- And not make millions of mistakes in the process.
- My startup, Posterous,
got sold for $20 million to Twitter.
- And my startup, JamLegend, was bought Zynga
as part of the IPO.
And returned money to investors
and then we made money in the IPO, actually.
- Same here.
I think it's safe to say I'm pretty happy
about the exit that we got.
It wasn't quite that I hoped for,
I really wanted to make something for a billion people,
and we didn't quite make it.
But on the flip side, our employees made money,
our investors made money,
and we learned a lot about this craft of making startups.
- Yeah, and I think the, as we've seen more
with our portfolio, we've seen a number
of different types of acquisitions,
not just the ones that we experienced,
but all types of different acquisitions.
And I think that our founders have asked us
a lot of questions, and we keep on giving the same advice,
so we thought we'd share it with the rest of the community.
What are the types of acquisitions, right?
What are the types of acquisitions that we see?
What are the ones that pay more?
What are the ones that pay less?
So I think that there are three types.
And three types are pretty easy.
And these are in order of, I would say
highest purchase price down to lowest purchase price.
So the first type is called the strategic threat.
So what that is is a company is their existence
and their mode of work is a threat
to an incumbent within the market.
A good example of this was when YouTube
was bought by Google for like a billion dollars.
- Hi YouTube, this is Chad and Steve,
we're the co-founders of this site.
And we just want to say thank you.
Today, we have some exciting news for you.
We've been acquired by Google.
- So Viacom was also in the running for that
and Viacom saw YouTube actually
as a real threat to its business.
They couldn't sell cable subscriptions,
and it would change the way
their advertising business worked
because now people could easily be able to get
personalized video delivered to them via the internet.
So that's a strategic threat,
something that fundamentally changes how industries evolve.
So most of the companies that we work with
are companies that we believe can change industries.
So we want them to be strategic threats
because that means that they will be bought or better yet,
is they IPO and they just crush their competition.
The second type is what we call revenue generating.
A good example of this might be when Guitar Hero
was bought by Activision for about $100 million.
The CEO at the time knew that if he threw in
a bunch of marketing into Guitar Hero,
he would make more money than the actual purchase price.
So, that's a very simple one,
which is basically I am buying this company
in order to generate more than I paid.
And the last type is what
we call team and talent acquisition.
There is something that is focused on the tech
or within the team.
And the company wants to purchase that
because it's going to help them either strategically,
it's going to help them add more engineers, for example.
One example of that would be when Salesforce bought Quip,
'cause they really wanted the tech and talent of Brett,
who was formerly the CTO of Facebook.
But in addition to that,
there was some technology built there.
And Quip was pretty useful as Salesforce starts to think
about what are the other offerings
that they want to have as an enterprise company.
- There really is some bigger company
that has something to protect, sometimes a moat
or a new business line that they really want to own.
That's the moment when they decide
to go out and buy a company.
- Yeah, the old adage, I think, rings true
that companies are bought, they are not sold.
When your startup was about to sell,
what was the sort of market landscape?
What was the situation at the time?
- For Posterous, the crazy thing was that
we had been growing really, really fast
for two years straight.
And then we stopped growing when Instagram came out.
- Oh, interesting.
- So yeah, we grew very quickly
off of a totally new technology,
a new platform, and a new set of behaviors.
And when Instagram came along,
it actually flatlined our growth.
Apps had not really been rolled out yet.
They were sort of primitive iOS apps,
the best photo sharing apps had not really started yet.
The easiest way to get photos off of your phone
was actually to email.
- And what were the, do you think,
were the hopes and fears of the company at the time?
- Oh, at the time, we had to figure out how to pivot.
Like, you know, we knew we had a committed userbase,
we knew had made something that
millions of people were using.
At the time, the company chose to become
a private group sharing,
and that's actually left to go work at Y Combinator.
If you don't have some other network to grow off of
there wasn't going to be that virality.
How 'about for you?
When did you decide to sell JamLegend?
- So, effectively, what was happening was
we had started doing a lot of social games.
We were really wedded to the world of music games.
And I sometimes wonder, if we had not been
wedded to music games, whether we could've
just built a social gaming company
and had it become, you know, the next Zynga,
or any of other friends' companies like Kabam or--
- You could've kept making new games,
- That's right.
- But you had the initial game first.
- That's right.
At the time, Zynga had started doing, well,
what they liked to call fast follows.
What they would do is they would find a game
that was rising up in the charts
and they would just immediately copy the company.
And they would copy the game,
split it out in like a month or two,
and then, and they were doing pretty well
as a result of that.
And we saw them basically gobbling up a lot of talent.
We thought that was a big change
that was happening within the market at the time.
- Was it a growth thing?
I mean, for Posterous, it was definitely, you know,
crazy, outrageous growth,
growth to the top 200 on the internet, anyway.
And suddenly it stopped,
and that's how we knew that we weren't reaching,
we weren't continuing to scale product market fit.
- Yeah, I think it was similar to us.
We were, we grew virally quite a lot,
we were like C-Net webware like 100,
we were in the Alexa 100, it was--
- I mean, that's a big feat, you know,
top 100 is really impressive.
- Yeah, there is nothing more powerful
than having viral growth.
Viral growth just on its own is just a sight to behold.
Yeah, we started flatlining.
We could make bigger and better social games,
but at the time, the cost of production
was starting to increase.
So, unless we raised another round of funding
at a significant clip, we would be competing against
a huge number of other gaming companies.
And this was hard, I mean,
I think this decision was really hard.
When you're sitting down, we had these couch moments
where we'd sit down on our couch.
And then we would talk amongst the co-founders and ask,
hey, is this worth it?
Is it what we want to do?
Do we want to have the independent company?
Well, I want to, you know.
- It's a serious moment.
- Yeah, do well financially.
Or is that, you know, we just want to be surrounded
by these really smart people?
Do we do the IPO?
And I think the thing is the choice was never
to take an offer 'cause there wasn't one in front of us.
The choice really was do we want to
potentially talk to people who've asked us,
who wanted to potentially acquire us?
So, we did everything, we actually met with
a couple different companies.
One I remember in Seattle,
and we met with all the big companies,
we got offers from a number of them.
And eventually we ended up at Zynga,
because I think it fit correctly
with our contours of things that we cared about.
We wanted everyone at the team to have a place,
and we wanted to make sure that our investors got something.
We wanted to make sure that our team was taken care of,
'cause we were just, you know, I mean,
working pretty hard for the past couple years.
And wanted to see the opportunity to grow ourselves
and potentially have a payout,
and I think a lot of people who were
bought by Zynga had the same thing.
The IPO was coming along, and it was imminent, right?
It was basically in a year or two,
a year and a half,
the IPO would just happen.
When I should even be having
these types of conversations, right?
They raised money from us,
they raised money from the series A,
their series B, even their series C, right?
At what point should they even be doing this assessment?
- Yeah, I mean, this is a really, you know,
sort of personal question, right?
I can only tell you what I would do if I were the founder.
The magnitude of outcome that can happen
when you have product market fit
and you have a clear path to building something really great
is just so obvious and so tantalizing that
that's always my plan A.
It's so hard for founders to even get to product market fit
that if you don't have product market fit yet,
you don't have anything to sell.
Basically have the team that you built and that's it,
and so, that's purely acqui-hire territory.
And the reality is, you can just go get jobs
at these big tech companies.
Like, you're, you know, if that's what you want,
just go do that instead.
Early on, pre-series A, it's almost always
exactly the right thing to just focus
on product and market and, you know,
getting your product out there.
And then the only time I would really start thinking
about it is if I'm managing risk.
Every time you need to raise when you are not default alive,
and I'm going to link in the description
to Paul Graham's essay about being default alive
or default dead.
If you are not default alive,
the future of your company is not in your hands, right?
Then that's okay, right?
Like, you're trading off growth for safety.
At every sort of journey from this, you know,
from the pre-seed to seed, from seed to A,
from series A to series B,
you will have built product,
you have built a set of customers,
you've built recurring revenue,
sometimes negative churn, which would be great.
All of these things are really powerful real aspects.
And at any given point,
those things, whether it's your team or your product
or the customer base that you've built
is valuable to someone else.
And so, if you're looking down the road
and you think you're going to run out of gas
before you get to the next gas station,
or the gas station might be closed for you,
that's when you need to think about M&A
because you need to take care of your employees,
you should take care of your investors,
you should take of yourselves, right?
Like, as founders, you own so much of this business.
It's okay to sell your business along the way, actually.
- Yes, and it's such a personal decision and it hurts.
I think everybody needs to recover from that.
There's this whole of this, like,
you feel like a fraud or you lose confidence
because you set out to do this one thing,
but you're not even there, you're like midway through.
And I think that that's probably one of the most
the difficult problems is that
great entrepreneurs are able to stare into the abyss
and the abyss will stare back.
And you just have to not fall in.
What we do at Initialize is
we use a four-step question process
that we took from Atul Gawande,
from his book, "Being Mortal."
It actually is usually used in counseling
around end-of-life care.
Similarly, we want to ask the same questions
when they're dealing with a startup.
So in this case, we ask really four sets of questions.
The first one is what is your understanding
of the situation and its potential impact?
That means understanding what your runway's like,
what does the market landscape look look?
All those different factors.
The second question we ask here,
what are your hopes and fears?
And the reason why we ask about hopes and fears is
you're a combination of people
and founders themselves have hopes and dreams
that they want for their company.
It might turn out that the thing that you want to do is
still continue pursuing your vision,
but because the market has changed,
it makes sense for you to team up with someone else.
The third question we ask is what are the tradeoffs
that you're willing to make, and not make?
Again, what are the tradeoffs that you're willing to make
and not make?
And that's a tough one because for a lot of folks,
they care about certain things.
Whether it's I care about my salary
or I care about what I'm doing,
or I care about the people that I surrounded with,
or it's not just the people that I'm surrounded with,
then it's just don't ever want to move to North Dakota.
Nothing against North Dakota, great people there.
Those are questions that we need to help answer
to understand the contours
of what it means to go and do an M&A.
And the last and probably the most important question is
then what is the course of action,
given this understanding?
And that helps us then formulate a plan.
So with those four questions, that's how we dive in.
And more importantly,
it should help you evaluate
whether you want to go ahead and sell,
and what you want to do with your company.
For a lot of folks, the first place to go and start
is levelsetting where your situation is.
So in that case, what that means is
knowing things like your metrics,
your annual recurring revenue rates,
your runway, your burn, debt that you might have,
debt, this turns out to actually be a really big issue.
Another one is talking amongst your co-founders
to figure out what is the situation
between amongst the co-founders and the leadership.
Are there certain people who are brilliant assholes,
who you're just like, oh, this engineer is really,
really important for the product and we need to keep them,
but honestly, everybody hates working with them.
- (laughs) That happens.
- Yeah, and that can kill companies.
- Yeah.
- And I think we've seen sometimes that happen as well.
Where somebody holds up a deal
because that person isn't on board.
But trying to understand sort of
what's the employee temperature?
Especially if you're going to be aiming for like
the talent and tech side,
you need to get a sense to whether your employees
are sort of in on that that.
So, if you've decided that based on your runway,
your hopes and fears, we've already talked
about the tradeoffs, you want to go ahead and sell,
there are many different ways to do that,
but here are a couple key things that would be very helpful.
One is start strategic partnerships,
especially if you're an enterprise company.
It's very hard to sell yourself to a larger company
if they have no idea who you are
and they can't tell the difference between you and Adam.
You need to build trust with some of these other companies,
and the best way to do that
is to create make them be one of your customers
or potentially a very good partner.
The best way to go and get an in
is never go through the corporate development department,
no matter how much we love those folks.
It's usually actually go through
whoever runs the line item budget
or whoever runs that particular team.
That person is the number one person you should talk to
because they're probably the key champion
that you're going to have,
who's going to help you fight against the decision makers
who may not be want to go and purchase the company.
And probably the two other things that are really important
that we don't talk enough about is
if you know that you're going to sell
and you need to extend runway,
it's now time to go and increase your sales,
pull forward some of that revenue,
and, on the other side, instead of just increasing revenue,
it's also decreasing burn.
So that means decreasing your costs.
This might be a hard time
that you might need to go and lay off some folks.
It's not great, but if you're going to cut,
cut quickly, cut deeply,
and be able to put yourself in a good situation
to either pivot yourself out
of the situation that you're in.
Or potentially be able to find yourself in an area
where you can extend runway and get more customers.
And so you're in a good position to sell.
When it comes down to talent and tech acquisitions,
many times, they'll want to go and interview your employees.
You want to go ahead and first do interviews
with your leadership, then do interviews
with your employees afterwards,
when there's significant and true offers on the table.
Many times, it is highly disruptive to your team.
You might be in the middle of a pivot,
you might be working on things,
and it's kind of scary to an employee.
They're not a founder.
When thy start seeing that
they're interviewing another company,
they get kind of scared because if it doesn't happen,
it really hurts them quite a bit
because you know, they're not the founder,
they are not built to deal with this type of risk.
When you are talking to an inquiring company,
you should talk to them about two different things.
One, get a sense as to who the previous acquisitions,
the previous acquiring acquisitions that they've done
and who are those companies
and what are the contours of those deals.
Ask to speak to some of those previous founders
or CEOs or whoever executed on the deal.
And number two, while you're doing this in parallel,
have a best alternative to a negotiated agreement,
your BATNA, if you will.
That includes raising money,
like doing a fundraiser at the same time.
That includes increasing revenue and decreasing costs.
And then also think about potentially having
more competing offers from other acquirers.
So Garry, we've seen a lot of folks,
not just in our portfolio, but just generally friends
within the ecosystem.
What is the number one thing that really seems
to just kill deals?
Like, they're about to sign or they're very close--
- Oh, for M&A, it's almost always
people treating their M&A process
like another fundraising process.
- Oh, interesting.
Corp dev and VCs are very different.
Their motivations are very different.
In the end, it comes back to principal agent problem.
What will get a junior VC at a VC firm promoted
is different than what will get a corp dev person
at a big firm of any sort promoted.
And so, you know, corp dev is about not paying too much,
it's about, you know, fighting for the deal, like,
you know, they want to get the deal done,
but not at any price, right?
Whereas VCs often have extreme groupthink,
and so the more bidders there are,
the more rabid they are to win the deal at any cost,
especially if there's a 100x on the other end.
None of that dynamic occurs at the M&A corp dev level,
and then the only other thing is
the best alternative to the negotiated agreement,
like, always keeping that in mind,
because if you don't have that, actually,
we've seen corp dev be extremely unscrupulous around that.
- Yes. - Right?
It's like, deals fall through,
always maintain some sort of BATNA.
Their entire job is to bring the price of the deal down.
- But there's an amount that they're allowed to pay,
and then if they can get that below that,
there's actually a bonus that's given to them
to a certain extent.
And it's funny 'cause I remember one of my angel investors
at my previous company over at the JamLegend,
he was the right hand to Barry Dealer over at IEC.
And he would say it was very funny
how the two deals that would go really well
were ones that were very small
'cause it was like, oh, we don't really care,
this is, yeah, we'll do it. - It's all upside.
- It's all upside. - Yeah.
- And then the ones that were really, really, really big
because those ones were existential strategic threats.
- So, I think that that's one of the best things
about tech startups is that as long
as we build something valuable,
even if it doesn't work out exactly to plan,
there's still a way forward.
And you know, a way forward that allows you to take care
of all the people around you.
- I hope it helps and more importantly is
we wish you the best of luck as you through your M&A process
and sell your company for millions.