There are many reasons for a company to buy a startup, early-stage, or really any company, such as:
- Strategic value. Maybe the two companies have complementary products or other synergies.
- Financial value. One company might buy another that’s generating significant cash.
- Technology. A company may have developed a great new technology and another company recognizes the value.
- People. Having an amazing talent pool working for a company can make that company an attractive acquisition – an acqui-hire.
Frequently companies will buy a small startup, that wasn’t getting a ton of traction and wasn’t able to raise their next round of funding, to get the employees. It’s often a mix of people and technology, because really great engineers have probably built something valuable too, but it’s really about acquiring a company so that you can get its employees.
What are the advantages of acqui-hires?
Firstly, there’s speed. An acqui-hire allows you to expedite a mass hiring. If you’re a startup and you’re growing really fast, you can do an acqui-hire and hire 10 or 15 amazing engineers. You didn’t have to spend six months or a year recruiting all those people.
Secondly, you get expertise. Oftentimes you’re buying a company/team that is in your space already that understands your problems, and has probably been building something complementary to your company. It can give you a real jumpstart if you’re the acquirer.
Why would a startup consider an acqui-hire?
Obviously this is not the greatest outcome for a startup or a founder. You’ve put your heart and soul into the startup. You’ve tried building something. And for whatever reason, you just didn’t get enough traction to raise another round. But there are a couple of reasons you should consider an acqui-hire:
- Cash. You will generate some cash that goes back to your investors, which makes them happy.
- Employee goodwill. You’re helping your team find another job. Often rank and file employees don’t realize the company is almost out of cash. You have the choice of having to let people go, people who have mortgage payments and other bills. Or you can help them find a good job.
- A soft landing. By doing an acqui-hire, you signal to existing and future investors that you tried your hardest and you helped the company find the best outcome. And there’s an old saying: If you can do this, it lets you play the game again. You’ve shown investors that you have integrity and you’re someone they would want to support in the future.
Finding a buyer
Typically prospective buyers will be in your industry because they know you and you know them. Your engineering team probably understands what they’re doing and can be plugged in pretty quickly. In those situations, buyers find you. And again, the reason why a big company wants to buy you is it just accelerates their timeline. They can hire a lot of people at one time through that acqui-hire.
In addition, your investors may know about potential buyers. That’s kind of the nice thing about working with bigger investors is they have a really broad view on successful companies that are looking to add people quickly.
Negotiating the deal
Realize going into an acqui-hire, you don’t have a super strong hand here. You’re probably not getting much more funding from your investors. They might be bridging you to a transaction, but they’re going to lose their patience at some point. And you don’t really have a lot of other options. Here’s some general tips on negotiating the sale:
Move quickly. If people out there know that your company is not doing that well, there’s a decent chance that recruiters know that and may already be calling people on your team. So if you’re going to do an acqui-hire, you need to move quickly and be pretty aggressive about getting a deal done. Otherwise you might end up losing those people anyway, and there’s nothing for another company to buy.
Try to get a non-solicit agreement. You want the prospective buyer to agree to not recruit your employees outside of the acquisition. That prevents the acquirer from basically walking away from the deal and then recruiting your people. You may not have the cash to sue the acquirer if they violate the non-solicit, so it won’t be ironclad protection for you, but it can be helpful.
Beware a re-trade. As the seller you are at huge risk for a re-trade, which is when the acquirer starts negotiating the transaction, and then reduces the amount of the original offer. If you’ve already started the exit process, it can be expensive for you to forfeit the time and money you spent negotiating the deal, so you could be forced to agree to a lowball offer. The longer it takes to make the deal, the greater the chance that the acquirer may try for a lower asking price.
Re-trades don’t always work that well for the acquirer, because, again, engineers could leave in that timeframe, and maybe there’s nothing to really buy, but just know that a re-trade is very, very possible. Many acqui-hires go through a couple of re-trades. So if you start at a decent price, you might end up at something kind of like 25% to 50% of whatever that initial price was.
There will be a vesting schedule. Often, especially for the executive team, if they’re going to stay, they’re going to end up getting put on something like a four-year vesting schedule. The engineering team might also be put on a vesting schedule. People won’t receive a ton of cash up front.
It will likely be an asset purchase. Know that the deal’s probably going to be structured as an asset purchase, not an equity purchase. That’s not a huge deal for you as the founder or even really for the selling company. The acquiring company, though, wants to make sure they don’t take on any kind of payable liability. So the deal will be to buy intellectual property and hire the staff, but not take any debt liability or any unknown liabilities. As an extreme example, say a year after the sale your company facility was found to have been storing toxic waste. That’s obviously unlikely, but with an asset purchase, the new owners would not be liable to clean that up.
Shut the company down. Bigger acquisitions that are very strategic and financially strong are typically going to be an equity purchase, because the seller has more leverage. Smaller acqui-hires will typically be structured as an asset sale, which means if you’re the selling company, the target, you still have to go about shutting the company down after all those payments are made through the acquisition. Typically you’ll need to wait three to six months, let all the payments settle, and then start winding the company down. You’ll shut down the Delaware C corporation and do the final tax returns. But understand that with an asset sale you’ll have some obligations after the sale is completed.
Think long term
Even though your startup didn’t work out, it’s beneficial to your reputation as a founder to help your company find the best resolution you can. So move quickly, get some capital back to your investors, help your team find jobs, and wrap things up as cleanly as possible. Handling an acqui-hire professionally and with integrity will always make it easier to get funding for your next venture. If you have other questions about acqui-hires, just contact us at Kruze Consulting.
