Preparing Your Startup for the Next M&A Wave

Though these alarming headlines seem all too familiar today, each originally ran from 2007-2010: The Great Recession dramatically slowed venture capital fundraising for many companies, just as recessionary fears are curtailing venture markets today. According to PitchBook, VC investments were down 30% in Q2 2022 compared with 2021, and IPOs hit a 50-year low. While a few iconic brands including Uber, Airbnb, and Square emerged successfully from the last downturn, most venture-backed companies struggled during this period, and many ended up pursuing M&A strategies. 

When deal-making slows, VC dollars typically favor the perceived market leader, starving other venture-backed businesses in the same space of capital. While some adapt and survive, others end up retreating and creating M&A opportunity down the line for those left standing. The process starts slowly, but as the chart below shows, venture-backed M&A plummeted during the recessionary period, when venture investing also slowed. During the early recovery, however, VC-backed M&A rebounded and skyrocketed: Annual deal values eclipsed $30 billion in 2010, holding steady before ballooning above $70 billion in 2014.

Startup Acquisitions Recovered Quickly After The Global Financial Crisis.<br />
Venture-backed acquisitions dipped in 2009 but recovered in 2010, surpassing pre-crisis levels.<br />
This chart shows the number of Venture-backed companies acquired with disclosed value, and their values for the years 2008, 2009, and 2010. In 2008, there were 175 acquisitions valued at 17.9 billion dollars. There were 128 acquisitions, valued at 13.1 billion dollars, in 2009. And 232 acquisitions, valued at 35.7 billion dollars, in 2010.<br />
Source: PitchBook.<br />

See more HBR charts in Data & Visuals

Regardless of whether you plan to seek a buyer or take advantage of shifting market dynamics to make a strategic acquisition, it’s important to note that M&A processes typically require 12-18 months from start to finish. Today’s abrupt slowdown in VC investment suggests a post-recession-type M&A wave is on the horizon. Startup founders can start positioning themselves now to be acquired in that wave. Unfortunately, many acquisitions occurring between now and then will be distressed. How can you avoid this unnecessary fate?    

To get a jump on the process, it’s important to know how you’ll be evaluated by a potential buyer. Most will have a ranked scorecard with specific criteria, such as deal terms, strategic fit, competitive gaps filled, cultural compatibility, potential upside, and finally “lift” – how hard will the purchase and subsequent integration be?   

The last category is most actionable. If M&A is likely in your intermediate future, your task today is to reduce a prospective buyer’s lift and increase your “acquirability.” To accomplish this, entrepreneurs should answer the following three questions in preparation for buyers to come knocking: 

How scalable are my systems?

You and your potential acquirer may have different definitions of “scalable systems.” From a buyer’s perspective, scalable means they could grow without immediately requiring a substantial investment in infrastructure, even if all they did post-acquisition was direct their pipeline and relationships to your sales operations. While the buyer may eventually integrate your back-office systems, IT stack, and supply and logistics networks, they will first ask whether they could take a hands-off approach and still get value. As an active board member across several companies, I often advise against acquisitions that require additional investments to actualize value. The more straightforward value actualization is, the lighter the lift.  

In addition to offering systems with excess growth capacity, scalability also implies audited financials and cleaned-up messes. If you’ve been wavering on closing an underperforming division or settling nuisance lawsuits, do that now. And get dissident shareholders — the ones who demand management’s time in excess of their actual strategic or financial contribution — off the cap table. It’s a delicate message to convey but try framing it as, “It seems the investment no longer meets your needs. When current and new secondary sale opportunities arise, would you like me to contact you?” It’s in the interest of all parties to engage in and explore these conversations early.  

How can I insert my company in M&A deal flow?  

Getting acquired by the right partner is challenging enough, but if the market doesn’t know both your company and its story, or worse, if the market has the wrong story, a successful M&A process is virtually impossible. Thankfully, there are two tangible things you can do to improve your position. 

If you’ve avoided the process until now, it’s time to meet and get to know the three to five investment bankers who know your space cold, and participate in the active transaction flow in your industry. Introductory breakfasts and site visits to your office are a good start, followed by regular 60- to 90-minute check-in conversations. Beyond educating potential advisors, these discussions often yield valuable industry insights.  

When you look to hire an advisor, they will need to understand your company, your team and its strengths, and what you’re attempting to accomplish so they’re able to accurately articulate your story to a potential acquirer. This is an exercise in setting your plot line, and while you may never actually activate all these relationships, what you share with a potential financial advisor will likely inform the process later on. Who knows — they may be advising your perfect buyer. This is your opportunity to establish the narrative. 

A second non-traditional way to enter the M&A stream is through strategic board enhancements. People join boards for many reasons, but one of them is to leverage their networks. Adding board members who operate in adjacent categories or who have recently retired from larger players in your industry is one of the least expensive ways to expand your profile, gaining access to potential business or strategic partners.  

Is my company considered a good business partner?

Buyers are busy, often evaluating several opportunities at once. They’re also humans, and will naturally focus on options that appear most prepared to complete transactions. In establishing your company as a good business partner, ask yourself these questions: 

  • Are your operating plans current?
  • Is there a detailed version that encompasses the current fiscal year and another higher-level plan for the next 3-5 years?
  • Do these include detailed organizational design and hiring strategies?
  • Is your IP fully scheduled and in digital form?

Best practices entail maintaining a consistently refreshed virtual data room even if the business is not actively pursuing M&A. It’s well worth considering how quickly your company could offer this deal-essential information without stressing the organization, or risking underperforming in the middle of acquisition negotiations.

The best CEOs I know keep three active lists on their desks. The first is a list of top executive talent they’d like to hire — a topic for another day. The second is a list of potential acquisition targets, businesses that for the right price and at the right time would increase their long-term value. The third is shorter: companies that could be their right potential acquirer.  

Knowing who belongs on your list, and how to get on another company’s list, could make the difference between finding the right partner and settling for a lesser one. When acquisition waves start, they move very quickly. One of the most unsettling feelings is watching weaker competitors get stronger in a downturn by getting acquired by outsized enterprises simply because they were better prepared.  

Many of the actions that make your company a desirable acquisition target will also enable you to better weather economic uncertainty. Selling during a period of consolidation isn’t necessarily inevitable, so the goal is to create the option, enabling you to efficiently decide whether that’s the right outcome. The proactive steps above will ensure that the decision to sell is your choice — not a necessity. 

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