In the tech industry, there are two types of companies: the start-ups and the established corporations. While on rare occasions the start-up morphs into a well established tech powerhouse, more commonly the big fish ends up swallowing the smaller fish through an acquisition. Whether or not an acquisition is fruitful is a tough decision that both sides will need to analyze.
The reasons in favor of an acquisition can vary. Start-ups might agree to an acquisition because it provides an avenue to complementary products and markets. Or because it provides it with working capital, faster access to an established infrastructure, and faster return on investment. The established corporations might see an acquisition as a way to acquire a new distribution channel or key technology. Or it might think that an acquisition is a way to get rid of a competitor and gain creative talent.
Whichever way you want to split it, the most common reason why an acquisition is desirable to either side is that it can add money to the bottom line. Figuring out if value is created or destroyed through an acquisition can be the toughest part that both companies need to decipher.
Deciding to Be Acquired
There comes a time in a successful start-up’s life when a decision must be made to either be acquired or to go public with an IPO. Although going public can be an exciting moment for any small company, start-ups must understand that there are many factors that need to be considered which may affect its decision. Things like the cost of making a public offering, public disclosure of finances, and the effort required to establish an infrastructure that will keep an attractive stock price need to be fleshed out before pulling the trigger on going public.
If a start-up decides that going public is not in its best interest, then acquisition might be the better option. But, as a start-up, when is a good time to begin thinking about acquisition?
Start-ups may want to consider being acquired once they produce a product or service that is critically acclaimed in the industry, have a strong development team in a mission-critical area, have few conflicting or overlapping products or infrastructure, and are profitable and can demonstrate revenue and profit growth. This can occur quite early in the lifespan of a start-up. Being able to spot that an acquisition is in the company’s best long-term interest may allow the company to sign the most lucrative deal possible.
Key Deal Issues
Once a start-up decides that an acquisition will be beneficial, the negotiating and book checking begins. If the well-established corporation and the start-up agree that the two companies are a good fit, the terms of the merger must be determined. During this time, there are several key deal issues that need to be considered. Some of these issues are:
- Valuation and Pricing Issues
- Risk Reduction Mechanisms
- Personnel Issues
- Acquisition Structure
- Type of Consideration Used
- Tax-Free Acquisition
- Acquisition Accounting
- M&A Issues
- Employee Incentive Issues
- Start-up Close to Bankruptcy
Each of these issues can create additional concerns of whether an acquisition is really the best plan for the acquiring company. If several of these issues are present and the cost of resolving these issues continue to add up, then an acquisition of the start-up is probably not the wisest decision.
Implementing the Deal
Getting an acquisition from a handshake deal to a completed transaction requires several steps before everything is considered finalized. The letter of intent (LOI) generally kicks things off by ensuring the agreement touches all of the major issues. The LOI outlines the proposed transaction, the consideration that is being paid, and other provisions that both sides consider essential to the agreement.
Besides the LOI, the parties must consider any disclosures of acquisitions, time and responsibility schedules, and other definitive agreements before the deal is considered complete. Other concerns that may arise are the possible requirement of board approval and integration issues that may require change within the existing company.
Since in the tech industry start-up acquisitions are more common than initial public offerings, start-ups need to put aside time to identify larger companies that are the best candidates for the start-up’s needs. Once an ideal suitor is found, making sure that the acquisition is beneficial to both sides takes even more time and effort. However, in the long run, being acquired may be more advantageous than striving for that IPO.