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With Scott Orn

A Startup Podcast by Kruze Consulting

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Scott Orn

Scott Orn, CFA

Michael Frankel of Deloitte on maximizing your startups M&A value

Posted on: 03/18/2020

Michael Frankel

Michael Frankel

SVP and Managing Director - Deloitte

Michael Frankel of Deloitte - Podcast Summary

M&A expert Michael Frankel of Deloitte discusses the steps startups can take to increase their enterprise value during a sale. Michael goes over things smart acquiring companies look for in a target, items a founder can do now that improve a future sale price and tips for succeeding at due diligence.

Michael Frankel of Deloitte - Podcast Transcript

Scott: (singing) Welcome to Founders and Friends podcast with Scott Orn at Kruze Consulting and today my very special guest is Mike Frankel of Deloitte. But first before we get to Mike, I’m going to do a quick shout out to our sponsor Rippling. Rippling is payroll for startups. Rippling is benefits for startups. Rippling integrates all your new employees into your IT stack, making it super easy to enable their cloud services. That’s a really big deal. We did a study at Kruze. It takes us three hours to do that for each new employee. So, Rippling is saving you three hours every time you hire someone, pretty awesome service. So, check out Rippling for your payroll benefits and it’s really nice for your IT systems too. All right, Mike from Deloitte. Mike, you are a longtime friend. I’m so fired up to do this podcast. You’re going to tell us how to do M&A from the buyer side, or you’re going to give us advice on how startups should handle themselves when they’re talking to a buyer.
Mike: Yeah, I’m excited. I think there’s a lot that can be done to make the selling experience easier and more effective. I’ve bought a few dozen companies over the course of my career and I can’t tell you how many times I thought to myself, “If only they had done these three things, I could have done the deal. I could have paid more. It could have been easier.”
Scott: That’s amazing. Well, you said you have all this experience and I’ve worked with you in the past. Can you retrace your career a little bit here?
Mike: Sure, so I’ve had a varied career, is probably a nice, friendly way of saying it. I was an M&A lawyer, I was an investment banker and then I ran M&A at several large either divisions of or full tech and information services companies. I was at VeriSign as a GE, I was at IRI, I was at LexisNexis. I was at a couple of smaller tech companies on the selling side, including one that we sold to Amazon and then I ended up at Deloitte where I run an internal strategy and ops team to help us build new technology businesses for ourselves.
Scott: It’s an incredible resume. I had the fortune of working with you on the VeriSign deal when they bought NOVA Solutions or merged and we’re going to get into a bunch of different stuff. Before we get into it too much, you have a really awesome book on Amazon called M&A for the Non-Practitioner, and maybe just give a quick blurb on that, but I highly recommend people read it, especially founders. I actually recommend it to founders that we talk to who are going to go through an M&A process. It’s a great book and maybe give a couple of words on that too.
Mike: Sure, so I wrote M&A Basics a while ago and the goal was, I did a lot of M&A but there were lots of people around me, whether they were the sellers, whether they were business people in my business who didn’t understand how the process worked. And so, I tried to lay out in fairly easy to understand terms, here are all the parts of the process, here are all the players and what they do, so that you go in with an understanding of how this is all going to work because my experience is M&A is like a water slide. Once you start down the process, and you throw up your arms in the air and go, wee, because there’s no stopping it. So, you want to be as prepared as you can before you take that first step.
Scott: I’m trying not to laugh uncontrollably because I agree 100% and I have a cough as you can hear, but I’m nodding vigorously. That is actually maybe the best analogy because it really does feel like things are out of control sometimes. And, the funny thing about … I think why the book is so cool is because most of the founders we work with, they’re either first time or maybe second time, a few serials, but you kind of have to live it and there’s no way to live it before you go through it. So, the book is actually really helpful to prepare you to actually when you hit those moments when you’re starting to go out of control and go, wee, you can actually get back into control.
Mike: Absolutely. It gives you some keys to what questions you should be asking, what things you can do to prepare, who’s doing what and who’s not doing what because it’s a fairly complex process.
Scott: It’s definitely complex. Well, we were kind of talking a couple of days ago and you had a great slogan. I thought it would be a good thing to start off with where you said that it pays to be pre-prepared for M&A. Can you tell the audience what you mean by that?
Mike: Yeah. So, if you think about it for a second, when you sell your business, this is a magical moment in time where all the work you’ve put in, all the money you’ve invested, all the blood, sweat and tears over a long period of time, all turns on this one event over a very short period of time. And so, preparing to make it go well, optimizing your business to sell is critically important. You can take 10 years’ worth of work and either increase the value or decrease the value by 10, 20, 30, 40% based on fairly lightweight things that you’re doing in the couple of years before you sell. So, in my mind, it’s penny wise and pound foolish not to do this stuff, not to get the best value. It’s like shining your car, waxing your car before you sell it. And so, I think that there are a bunch of different, fairly straightforward, some a little bit of work, some not that much work, things that you can do to make sure that you get the most out of this precious asset. The most important thing you’ve ever built unless you have kids.
Scott: And, you’re right. Everyone puts so much of their life into these companies and I think we’re going to get in a bunch of this stuff, but a lot of them think that they can … The founders think they can redo their financials after the buyer calls for the first time or get their compliance in order or there’s a bunch of tactical things that I think you’re going to nail in this conversation, but it actually moves way too fast. You have to do it before. You’ll never catch up, and also, I always tell founders, they’re kind of on the clock the moment that that conversation starts and they’re being judged the moment that conversation starts. And so, there’s a lot of positive and negative signaling that can happen as well if you’re not prepared or if you are prepared.
Mike: I think it’s an incredibly important point and one that founders are often not thinking about. As a buyer, I don’t have perfect visibility. You’re a little bit of a black box. You’re not a public company. You don’t have research analysts covering you. So, I’m guessing at what’s inside the box. It’s like Christmas morning. I can shake it, and I can see how big it is, but I’m guessing and so I look for signals and those signals can either excite me or they can worry me and they’re going to feed into whether I want to do the deal and how much I’m willing to pay. If I see things that make me think maybe there’s something there below the surface, maybe they haven’t done something properly, maybe they don’t have a good handle on their business, I’m risk averse. I’m going to discount my price, even if it’s not true. Even if it’s an amazing gift wrapped in newspaper, I see the newspaper, maybe I decided not to open the gift.
Scott: No one can blame you for that because you just don’t know what you don’t know. There’s a couple of buckets. One of the things that you said to me a couple of days ago was it’s actually cheaper for the startup to be in compliance and be settled and just put together than it is for your team. And, that actually blew my mind. Maybe you can explain that to folks.
Mike: Sure. When you think about it for a second, it’s fairly common sense. Startups are lean. You manage your costs, you manage your infrastructure. You manage all your luxuries because it’s your money or it’s your venture investor’s money. Large corporates have a much bigger cost structure. Our people are more expensive and we’re more risk averse. So, we do things in a really rigorous and thorough way. So, anything that you can do that I then don’t have to do after I buy your company probably costs you 10%, 20% as much as it would me. And, I’m going to factor that into the price. When I look at your company, if I think I have to fix something, I’m going to do my math and go, “Okay, how much would it cost me to fix it? I’m going to take that out of your purchase price.” So, there’s just a pure value creation exercise in you prepping your company for sale and limiting the number of things I have to do that I have to fix. You are really good at fixing your own house and you have a hammer and nails. I’m going to have to hire a contractor to do the same work.
Scott: That 10X number blew my mind, but I actually think it’s totally true because if you think about the kind of like financial consultants that Deloitte has to bring in or VeriSign or some of the other companies you’ve worked at, they’re so expensive by the hour and the lawyers that you guys pay are so expensive by the hour and so many of these kinds of things. Taking away your personnel’s attention from their normal job to come diligence something or how are we going to fix this or that, that’s incredibly expensive time. So, that was a real eye-opener for me.
Mike: I think that’s right. There’s also an opportunity cost. If we want to buy your company, it’s because we want to get going on whatever it is you have. If we look at your company and say, “Wow, we’re going to have to spend six months fixing it, that’s six months of opportunity costs that’s lost on us.” And then the last thing is this, it’s also cheaper and easier for you to fix your company because going back to the point about the Christmas box, you understand your company, we don’t. So, the example I often give people is it is dramatically cheaper for you to do a really thorough job of documenting your technology than it would be for us to take a team, dissect your technology, and create documentation.
Scott: I totally get that. Another one in the accounting world is rev rec. You’re going to have to hire an accountant who doesn’t know any of the deals, has to read through every invoice, every master contract, and try to figure out how rev rec should be instead of the founder who probably closed half those deals themselves and the VP of sales who closed the rest of them knowing exactly how things should have been done. So, if you just do it ahead of time, everyone wins. It’s so much better for everybody.
Mike: Exactly, and if this gets to sort of the adjunct point which is in rev rec is a great example, I get nervous. When I see numbers that I know aren’t good GAAP accounting, I worry about, is that just because you did it a different way or is that because you’re hiding something? Now I’ve got to think about whether I want to build into my price the risk that I discover that you did some bad accounting, that you front-loaded revenue that you shouldn’t have front loaded, things like that. So anytime I encounter something that I don’t understand, doesn’t seem to be standard, is not transparent to me, it’s literally a checking off, that’s a risk, that’s a risk, that’s a risk. And honestly, in a not too unilinear way, that’s a price reduction, that’s a price reduction, that’s a price reduction.
Scott: You had a couple of other really insightful ones on the phone the other day around software code, which again, and I’m not an engineer, so this may be more founders that we work with who tend to be engineers understand this more, but could you get into that just a little bit?
Mike: Sure, the sort of most powerful one is open source code. Using open source code in the wrong way, in the wrong place, in a way that doesn’t comply with the rights that you have is a huge danger. It’s a huge no-no because while a startup may think nobody’s going to sue us over this, a large buyer will immediately get sued, or at least that’s going to be our assumption. So, don’t build in a way that a large corporate wouldn’t want to run the technology. And that applies to everything, that applies to the level of rigor, the level of QA you apply. Don’t take shortcuts because we’re going to have to fix all of that in post and it’s going to be much more expensive for us to fix and much riskier. We start to worry about how much code we’re going to have to rebuild. If you peel back the corner and you see a mess … You’re buying a house and it’s got carpet. You peel back a corner of the carpet and you see rotted wood, you’re going to assume the rest of the wood under that carpet is rotted too. So, think as you’re building out … And obviously there’s a balance here because you’re a startup. You want to be cost effective. You’re not building every bell and whistle, but make sure that what you build is enterprise grade and imagine yourself as a large corporate buyer, the dev team on a large corporate buyer. What’s the standard that you would hold that code to before you’d release it to your large clients?
Scott: Totally. And, you guys are a target for lawsuits. You’re just a walking piggy bank and some in the IP litigation people’s eyes. That’s a big part of your job probably is buttoning that stuff up and making those reps and warranties internally, so that everyone knows Mike Frankel’s name is on the line if there’s an acquisition. So, that’s got to be pretty scary.
Mike: That’s right. That’s what diligence is. And frankly, there’s another probably even bigger risk, which is sure, if we buy something that violates somebody else’s rights, we could get sued. Perhaps more importantly, if we buy something and the code is not built right, and we use it with one of our large clients, we risk our client relationships.
Scott: Oh my gosh, yeah.
Mike: For any buyer, so your buyer’s going to have large client relationships that are much bigger than this particular offering. They’re putting this into a suite and they’re not going to risk damaging that relationship with one bad egg. So, they’ll try their best to diligence your technology, but they know that once they get it inside, before they’re going to sell it, they’re going to make sure it works. So, the less comfort they have that it’s ready for prime time, the more they’re going to reduce the purchase price under the assumption they’re going to have to spend a bunch of money doing development work. And this is another example, large corporate developers’ teams, much more expensive than [crosstalk].
Scott: I thought your point about the opportunity costs of missing out on five or six months of just post-acquisition momentum was a really good one too because you and I know this and I think most people know this, but a lot of what goes into the deciding how much to pay for a company is the projected model, how fast you can get to revenue, how fast you can get to synergies and delaying that by six months has a real kind of time value of money effect on the purchase price. Time value of money being you’d rather have a dollar now than a dollar a year from now because it’s worth less a year from now. So, those projections are actually not going to come true as fast as you’d like. You’re leaving money on the table and I hadn’t actually thought of that too. That’s a really good insight there.
Mike: Absolutely. The way a buyer’s going to look at your business is they’re going to go, “All right, when we get the business in-house, what will the P&L look like for us for the five, seven years?” And, if there’s a delay in being able to sell or there are extra costs built in, that’s all going to go into the P&L, we’re going to look at all the cashflow that we get from that P&L, discount it back, and we’re going to go, “That’s what it’s worth to us and we’re going to pay you some amount less than that number by definition.” So, the higher you can get that number, the better.
Scott: You are the expert acquirer at your company, whoever you’re representing, but you probably have a business line partner or a group manager. I don’t know what the exact title would be, but whoever kind of owns that business that this acquisition is going into and that’s their P&L on the line too. They’re the ones kind of paying for this acquisition.
Mike: That’s exactly right and they’re held to those numbers. That business case that we put together, the general manager of that business and myself, that business case hangs around their neck for years, four or five years. Every year somebody will pull out that P&L and go, “Remember this? Remember that money we gave you?” So, they want to be sure that they can deliver on those numbers. They want to over-deliver on those.
Scott: We were kind of throwing around, how much do you think that costs companies just in general, like an average because you said something interesting at the beginning of the podcast where you said, “I’d actually like to pay more for a company that was well put together and well-managed.” How much do you think companies leave on the table, like ballpark?
Mike: I think it varies a lot, but I have seen lots of companies that in my view left 10 to 40% of purchase price on the table. Now, I’m not including they fail to build the right product. I’m not talking about that stuff. That stuff is the difference between a home run and a strikeout. I’m talking about the basic blocking and tackling of building your tech right, building your team right, having the right policies, having the right HR policies, having a retainable team, having a layer of management underneath you that’s retainable. All that kind of blocking and tackling can radically affect the price and it’s a thousand little pinpricks. Some things affect the price in a big way, some in a small way, but there’s probably a set of 10, 15 best practices that if you do these things, you’ll bump your price by 15, 20, 30% and if you think about how much work you put into building this thing, I go back to the waxing the car analogy. Why would you spend all this time building up a beautiful ‘69 Mustang and not wax it before the buyer comes over?
Scott: It’s mind-boggling and sometimes people get so bogged down in their day to day or the stress is so much, but I keep going back to that, your comment about being pre-prepared. It makes so much sense. If someone came to you and said you could increase the value of your company by 25% by doing X, Y, and Z, you would do it in a vacuum. There’s something that we probably should have covered at the beginning, but the reality for most startups, especially in my career, and I’ve been doing this for either investment banking, or venture capital, or finance accounting and tax for 20 years now is almost every company actually gets acquired. You probably have some great stats on this, but that’s how most companies are going to get liquid, right?
Mike: Exactly. There are a sort of three, well, four natural outcomes. A very, very, very small amount will go public. A bigger amount will go under. A relatively small amount will just stay private forever and become a founder-owned business more so, in some industries less so. But, the vast majority of liquidity events where the business doesn’t go under are going to be a sale to a larger business. That is the most common exit. So, if you’re a founder and you’re building your business, I know it’s exciting to think about an IPO. I know everybody hopes to be the next massive success, but if you want to maximize your personal wealth, you want to maximize your shareholder return, you should plan for the most likely outcome and the most likely outcome is M&A.
Scott: It just makes sense and all the stuff you’re going to do to make sure you’re in good shape for M&A is going to be applicable if you’re one of those companies that does do an IPO. You’re not repeating work, right?
Mike: No, no, no, you’re absolutely right. Almost everything that you do for an M&A transaction is going to be relevant if for some reason you’re the company that goes public. The key difference is an IPO is a little bit more … Timing is a little bit more in your control. Well, to the extent that you sort of choose the flight path. M&A can come in anytime and that’s why I argue that companies should be well in advance of even an inkling that there might be an M&A transaction should do this kind of stuff because a lot of it you can’t do overnight. This is the point you made at the beginning, it’s too late. Once you’re on the edge of the water slide, once somebody calls you and goes, “I’m interested in buying your company,” it’s going to be too late to make a lot of these changes and ironically, it’s more expensive to try to make them in a fire drill at the end. Documenting code as you build it is dramatically easier than going back and going, “Wow, we have three years of development behind us. Let’s go and try to document that in the next three weeks.”
Scott: Same thing with financials, it’s so much easier to build it the right way. Trying to cram … We’ve done it by the way, and it’s miserable for everybody, including the CEOs. In a one week or two-week rebuild, you just are more likely to make errors which make you look bad. There’s also something around some founders, especially some of the ones we work with at a super early stage, they’ll say like, “Well, we’re either going to be huge or we’re going to do an acqui-hire, but actually having your ducks in a row helps … Acqui-hire is better than just kind of not making it. And actually, a lot of companies are able to do that these days because the team that’s assembled is really awesome and they built something that fits some piece of IP that fits really nicely into an acquirer. Not a huge exit, but usually everyone gets a job, some of the investor money gets paid back. That too is a good situation. It’s actually easier if your ducks are in a row because the acquirer can move a lot faster and the acqui-hire is in a way, at some level, the acquirer’s doing you a little bit of a favor. They’re obviously getting something out of it. They’re getting a team and no one’s going to do this for charity, but if you make them jump through too many hoops in an acqui-hire, it’s just not worth their time. It’s not worth the opportunity cost for them.
Mike: Absolutely. I would say almost all the things that you want to do to prepare for M&A, you want to prepare for an acqui-hire and even I’ll give you an example of one that might not resonate. You might say, “Well, if my company’s going to be acquired for the team, then the code doesn’t matter.” Ah, but here’s a question. If I’m buying a technical team, I’m going to take a look at their code. If their cold is well-built, if it’s well documented, if their QA processes are good, that’s going to enhance the value of the team to me. Your code is what shows me how good your team is. So, even if it’s an acqui-hire, and even if the code’s getting thrown away, it’s a demonstration of the value of the people and all of the other things. All the things around culture, all the things around your internal processes, and HR, and benefits are equally applicable to an acqui-hire. So, there’s just a lot of this blocking and tackling that you tend to set aside when you’re in the throws of trying to grow an early stage company. And, I totally understand why people aren’t doing this. It’s hard. You’re working really hard, you’re trying to build something, you’re trying to get your first sale. The last thing you want to think about is an employee handbook, but it’s really important to take the time to do these things along the journey because otherwise all that work you put in, you don’t get the maximum value for it.
Scott: I totally agree, and there’s something tucked into one of your previous comments, which I just want to kind of pull out a little bit, which is the importance of developing the future leaders of the company because we were laughing because you have a good saying for this. I don’t want to steal your thunder, but there needs to be a bench at the company you’re acquiring because maybe you can explain kind of your perspective on it.
Mike: So, here’s the thing to keep in mind, and this is especially true if you think you’re going to be … The more successful you think you’re going to be, the truer this is. Remember that the buyer is buying a whole team. It’s relatively rare, sometimes maybe the buyer has a natural management team. They’re just going to drop on top of your business, but that’s relatively rare. The much more common scenario is they want your whole business. They want your whole team. Now think for a moment about the economic reality of a successful deal. Some number of people in your business, the founders, are going to become boat rich or even plane rich, and then a layer below them will become sort of house rich or nice car rich. No matter how much you tell the large corporation, “I’m super excited about working for you,” if we’re about to make you boat rich or plane rich, we are very worried that six months in you’re going to decide you don’t want to fill out those TPS cover sheets, and you’re going to walk away. So, we’re going to look at your team and go, “If that happens how much trouble am I?” So, if the layer below you that is just going to be sort of house rich and car rich are top notch and natural successors to your leadership team, I’m not that worried and good for you. I’m glad that you did well as a founder. If I look at the layer below you and I go, “They can’t do it.” I’m going to have to scramble to find someone new, they’re not going to understand the business. I go back to the comments you made at the beginning, I’m going to discount the value because there’s going to be disruption. There’s going to be an opportunity cost. There could even be real fundamental damage if you as a founder have a whole bunch of proprietary information locked in your brain and if that brain takes off for Tahiti on your new boat, I’m in trouble. So, layering and spreading out your skills, layering in management that can do your job is the best way to number one, assure that you’ll get the most value for your company, and that the buyer will let you go. The more dependent on the business you are, trust me, the more I’m going to tie your big earn-out to you personally staying at the company.
Scott: I hadn’t thought of it. That’s such a great point and maybe you can … can you explain how an earn-out works for folks, just so the audience can visualize it?
Mike: Sure. There are a million variations on this, but the basic notion of an earn-out is I’m not going to give you all your money for the company now. I’m going to give you some now and I’m going to you some later based on some milestones and the milestones can be anything. The milestones can be hitting a certain amount of revenue, getting some development cycles out, achieving certain product feature functionality, or just literally you staying for a period of time. If you’re not on our payroll working at year two, you don’t get a certain chunk of the money. So, the milestones will vary based on what the buyer is worried about and what the buyer wants, but with most early stage companies, there’s going to be a temptation to put it in and out. Again, it goes back to the uncertainty factor. You’re much more confident of your team’s ability to deliver whatever it is than I am. So, I’m going to go, “Fine, put your money where your mouth is. I’ll take part of the purchase price, I’ll put it in a bank account and we’ll have a lot of lawyers in between and when you do the thing you said you were going to do, whether it gets the code out, or sell offerings, or get good client feedback, or just show up to work, then you’ll get the money.
Scott: I love it. And your point, it’s a self-serving thing in that you made an awesome point. The more you’ve kind of built the fabric of the company and the infrastructure, the easier it is for the founder to leave later because they’re not as needed. It actually makes so much sense. There’s also one other, I think incentive for founders maybe that folks don’t think about or it’s not obvious, but almost every successful founder I know doesn’t do it for the money. They do it for this burning desire to solve a problem and they just want to fix something and the money’s great and that’s part of it, and sometimes that’s what keeps you up working at midnight when you’re tired and you want to go home, but oftentimes their legacy and kind of who they are as a person that’s tied up in the company. And post-acquisition, by having a deeper bench, it’s more likely that company is going to be successful and actually add to that legacy and really do kind of world changing stuff. And, I’m sure you have some examples of acquisitions you’ve done, but when you look at YouTube and Google, or some of the other … Just Facebook and Instagram, those were world changing acquisitions and the founders got so much benefit out of just seeing their company grow and fly and become a worldwide institution. So, I think there’s also some non-monetary reasons why founders should eventually invest in their bench and develop that next layer of management.
Mike: And, I think it’s actually true for almost all of these items that we’ve talked about. So, if you think about it, there’s a correlation between me being willing to pay more for your business and me believing that I can do something amazing with your business. So, the more you make sure that your code is industrial grade, that your features and functionality are market leading, that your team is really up to snuff, that your culture will survive a merger into a larger organization, the more you do all those things, the more likely … The reason I’m willing to pay more is the more likely I think this is going to be a highly successful part of my business and frankly, if you are world-class in all those things, I may even try to drive my culture with your business. I may even take your business as role models, your team as role models for the rest of my organization. Some of the best M&A I’ve ever seen are deals that not just bring something in, but actually change the mothership, are used as a change agent for the mothership in terms of innovation, in terms of culture, in terms of approach to technology or product. So, it’s a little bit of a virtuous cycle because at the end of the day we want the same thing. We’ll haggle over the exact dollar amount, but we want the same thing. We want a massively successful part of my business. That’s what we both want. Doing everything to convince me that that’s actually going to happen and that it actually will happen is the best way to serve my interests and the sellers.
Scott: You said it perfectly. There’s another item that we’ve talked about a couple of times, but I really want to hit it head on, which is the value of a healthy corporate culture. This is something that frankly we’ve become big proponents of at Kruze Consulting and through hyper-growth, and growing too fast, and we had an HR bump, and we had to really kind of get religion around this. And now, it’s so clear to us how important a healthy corporate culture is because it kind of helps police the organization and allows the members of the team to police each other. But in an M&A context, it’s actually super important. You want to talk about that a little bit?
Mike: Yeah, absolutely, and I’ll give it two layers. The first layer is having a corporate culture and corporate policies and an HR environment that aligns with the larger organization. And that may not be a matter of right and wrong, it just may be a matter of what’s appropriate. So, if you create a culture where everybody takes off from 11:00 AM to 4:00 PM even if they work until midnight, that’s not going to work when you join a large organization. So, you need to think about those kinds of things. That’s category one. Category two, in my mind, I just characterize as right and wrong. There are issues around how people are treated, around different kinds of bias and harassment that are just unacceptable. And, I would hope that everyone views them as unacceptable, but I can tell you that a large organization, not only as a moral, but as a legal and financial force behind them saying we won’t accept that kind of culture. We can’t participate in our organization. So, it’s both the right thing to do, but it’s also frankly the right thing to do from optimizing your ability to sell perspective because I can tell you that we diligence culture and if we find an environment that’s five degrees off center from ours, then we think we can evolve it. If we find an environment that’s 30 degrees off from the center, we probably won’t do the deal, especially if it’s a people intensive business. If we’re buying the people, if we’re buying the team and those capabilities, and we don’t think that they are retainable because they won’t work in our environment because they won’t be able to comply with our culture of being respectful, and a lack of bias, and a lack of harassment, things like that, then the deal is not worth doing. So, I would hope that everyone does it from a purely moral perspective that it’s just the right thing to do, but it’s also the right thing to do economically.
Scott: You talked about diligencing the culture, but that does happen. There are going to be a ton of background reference checks that you’re never even going to know about. Someone like Mike’s Rolodex is pretty amazing, and the people that Mike knows, knows people. There’s also going to be a lot of in-person meetings. There’s going to be people hanging … Mike’s team is going to come to the office and check out the vibe and interview the employees and see how they talk about people and see if there’s any … So, it just pays to pre-invest in this stuff. It’ll help you run the business, it’ll make your life easier, and less stressful anyways.
Mike: Absolutely.
Scott: But, it really does make dollars and cents differences in an acquisition situation.
Mike: It does, and I’ll make a couple of other points. One is, it’s not just my … I happen to have a strong network and I can use it, but I don’t need to use it. There’s a lot of stuff on the web. There’s a lot of public information about companies. It’s hard to hide these days if you have a toxic culture, and the other thing I’ll say is at least this is my point of view, again, you shouldn’t need this because you should just do it from a morally right thing to do, it is really hard to scale, in my view, a toxic culture. So, what you can get away with when you have 20 or 30 people, it’s going to be awfully hard to get away with at scale, and it can damage or even crush your business. So, setting aside M&A, although that’s the most likely path, it’s just a bad idea from a variety of perspectives, but buyers are becoming increasingly focused on it. Now, I will say there’s one, to put a slightly more positive tone on the culture issue, there is a flip side, which I talked about earlier, which is we will pay more and we will buy positive culture. So, if you have a culture that is particularly innovative, if you’ve found a way to really unleash the thinking of your team and have a new approach to development or have really deeply integrated customer insights with your technology team, that’s stuff that we want. We want to buy that and we want to try to sort of ingest it into the rest of our organization. So, there’s a positive side to culture. You will get rewarded both in terms of the fact that you’ll be more innovative. Right? So, your stuff will be cooler, but also because we’ll spot that and in a lot of times we try to get those kinds of cultures into our organization.
Scott: Going back to that DCF calculation, the financial calculation, it makes you so much more likely to be successful and the success is going to come faster. You’re not going to be weeding through a bunch of stuff for six months handling HR issues, you’re going to just be able to get right. Everyone’s going to sit in the same room and be able to work together. It’s going to be really nice, so that makes so much sense.
Mike: And by the way, this is a particularly critical point when you do an acquisition because an acquisition is a cultural stressor. And so, if there are underlying problems, if there are underlying issues, the acquisition point just accelerates them, and I’ll give you one wacky story. I won’t say the name of the buyer, but at one point in my career I acquired a company and this was a mistake that I made and we acquired this company and we didn’t immediately go out to visit it, and by the way, this is a great example. The leaders made a lot of money and basically checked out and nobody went out to visit the company. And it was a hot market, lots of job opportunities. And after about a month, I checked in with the GM and I said, “So, how’s it going?” He goes, “I don’t know, I should probably go out and look.” So, he flew out-
Scott: Oh gosh.
Mike: … And discovered that about a third of employees had just left.
Scott: Oh my God.
Mike: No one had told him what was going on, and so they just took the calls and got job offers and I think about a third of the clients had also left because it was the perfect storm where the clients heard that the company had been acquired and they started calling.
Scott: No one called the clients.
Mike: And, their account managers weren’t at their desk.
Scott: Oh my God.
Mike: The joke I tell is, but for 50 polo shirts and one airline ticket, you could have prevented this. If somebody had come out and said, “There’s a lot of change going on, but here, welcome to the team. We’re excited to have you on board. Give us a few weeks, we’re going to be back with more information, but it’s going to be super fun. Here’s pizza.” You could have prevented that kind of damage.
Scott: You make such a great point, and I remember at Hambrecht & Quist where we met, where I was working, was an investment bank acquired by Chase J.P. Morgan. And to Chase’s credit, they actually did fly out all their senior executives and I remember having that meeting with the entire M&A team people kind of a little nervous and scared because you either chose to work at somewhere like H&Q, which is a very entrepreneurial, not super stuffy place to do investment banking, or you went to work at Goldman, Chase, J.P. Morgan, whatever, which was all suits, all day long. And so, it was a totally different culture, and I remember sitting in that meeting and the tension was palpable, but the Chase executives did a really good job and actually got people on board. And so, that is an amazing example of just the power of showing up, being a person, relating to people and just answering questions. That’s all it was for us. People just didn’t know what was going to happen, and so I think that’s an amazing story. I have to get you out of here, that was a great way to end. Can you just tell us a little about where people can find you and before you do, again, you have a great book on Amazon called M&A Basics for Non-Practitioners and I highly recommend people read it. Mike, I’ve had many non-podcast conversations with Mike over the years and he just knows this stuff so cold, so please check out the book, but Mike, maybe you can tell everyone where they can find you and how to get in touch.
Mike: You can find me on LinkedIn, you can find me at michaelfrankel.net and then on Amazon I actually have three books, but M&A Basics is probably the most relevant one for this group, so hopefully it’s helpful.
Scott: Mike, awesome job. I think we’re going to probably have to have you on again. This was amazing. Thank you so much for making time. We really appreciate it.
Mike: Absolutely, great talking to you.
Scott: Take care, bye. (singing) Thanks to Mike Frankel for an awesome podcast on M&A from the buyer’s perspective. I love it. That’s going to be super popular with our founders. And before we go here, I just want to give a quick shout out to Rippling. Rippling is the best payroll benefits and integrated IT system solution for your startup. Checkout Rippling at rippling.com and thanks for listening to the podcast. I appreciate it.

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