Blog: Get Ready to Be Acquired
Acquisition for payments startups and growing companies is a fact of life. And, whether acquisition is your reason for being or you want to grow old with the company you’ve founded, it’s best to be prepared. This article will tell you why early preparation is important and practical things you can do prepare—before live bullets are flying and a sale transaction is at hand.
The M&A market for payments companies is booming, as industry giants and other large companies look to acquire innovative smaller firms. Of course, some early stage and growing companies won’t be acquired. They’ll go it alone (or merge with each other), go public and become the iconic industry leaders of the future. But, for the vast majority of successful early stage payments companies, sale to a large corporation is possible or even likely.
Nothing written by a lawyer—not even practical advice culled from personal experience over hundreds of deals across three decades—would be complete without a disclaimer. When I say, “Get ready to be acquired,” I’m not suggesting you should sell your company. With the possible exception of a good financial adviser, you’re in the best position to know if a sale is right for you, your investors and your company.
By sticking to your guns and disregarding virtually everything I say here, a select few of you will change the world and attain vast wealth.
But, for the rest of you, it’s just good business to prepare for the possibility of a future sale—and to begin this preparation from the moment your company opens its doors, because even if you never sell, being positioned to do so will improve your options and make you stronger.
FT Partners, a San Francisco-based investment banking firm focused on the fintech and payments sectors, has seen a dramatic increase in the quantity and value of M&A and financing activity. Total fintech M&A dollar volume is up 81 percent this year overall, with financing volume up 85 percent—and there’s still another quarter to go, according to Steve McLaughlin, FT Partners managing director. “The numbers are even more impressive in the payments industry, where M&A volume is up over 200 percent compared to last year, and financing volume is up nearly 100 percent,” he says. “We don’t see any signs of slowing. While larger transactions tend to drive the numbers to some extent, the volume of smaller deals and financings is enormous as well, supporting the future growth in M&A activity that could dwarf what we’re seeing today.”
In light of the twin trends of increased funding of growing payment companies and the likelihood that those companies will be acquired, my advice for those of you who own or run these companies is the best time to start getting ready to be acquired—like it or not—is long before you believe a sale is desirable, unavoidable or even topical.
If we can agree that no matter what happens with your company, preparation is important, then I’d like to offer nine practical pointers on what you should do to prepare your company before live bullets are flying and a sale transaction is at hand.
Create a Culture of Compliance
One of the leading causes of a “dead deal” is when due diligence identifies that the seller has significant compliance issues or risks. A unique and attractive business model that hasn’t been properly vetted for compliance during the company’s history may be perceived as too risky for a large company to acquire. Just because there are no historical or active compliance or regulatory issues doesn’t guarantee they won’t arise, particularly in the hands of a large, visible acquirer. The payments industry is a hotbed of regulation and enforcement at the local, national and global levels. Having competent regulatory advice every step of the way on subjects including data privacy and protection, consumer protection, anti-money laundering, import-export laws, licensing, foreign corrupt practices and the like is virtually mandatory. A seller that’s not well-prepared in these areas may achieve a sale, but it can count on the acquirer using lack of preparation to drive the purchase price downward. By the same token, an emerging growth company with a well-articulated compliance program may be able to achieve a premium price when going to market.
Dress for Success
|The best time to start getting ready to be acquired—like it or not—is long before you believe a sale is desirable, unavoidable or even topical.|
Once a buyer has a deal “locked up”—whether through a letter of intent or issues of practicality—the negotiating leverage often turns in the buyer’s favor. At this point, an unsatisfactory due diligence process can terminate deal discussions or create an opportunity for the buyer to reduce the purchase price, leaving the seller in an awkward position.
To mitigate unpleasant due diligence surprises, a well-prepared seller has its house in order, including having its documentation organized and easily accessible. Clean audits and good bookkeeping—right from the beginning—can make a huge difference. The frequent risk of disagreements regarding the quality of earnings, liabilities and other financial accounting matters can be reduced or be avoided by:
- Maintaining accurate corporate minute books;
- Carefully documenting stock transactions, leaving no room for ambiguity about who owns the company and whether they have authority to engage in the transaction; and
- Having a strong commercial contracting and administrative function.
It’s also critical to have a well-articulated and documented IP protection program, including patent filings, trade secrets; copyrights; trademarks; non-competition, non-solicitation and confidentiality agreements; and licensing arrangements.
Dissension among the selling parties may not preclude a sale, but, at a minimum, it creates an opportunity for a buyer to play stakeholders against each other, with the net effect usually benefiting the acquirer. So, key members of management, shareholders and sometimes even critical customers and suppliers must be on the same page.
Creating alignment occurs throughout a company’s life cycle. For example, choosing investors with a flexible perspective regarding when, at what price and to whom the company may be sold (and who agree to be bound in a shareholders’ agreement by the wishes of a (super) majority of the shareholders) can be enormously helpful. Establishing financial and other incentives (such as stock options/equity, change of control protection and transaction or stay bonuses) for key management before any sale opportunity is on the table can avoid unnecessary distraction or even team attrition. But these efforts must be balanced with creating incentives for management to remain in place for the new owner if that outcome is desirable.
When creating strategic alliances with major customers or suppliers, give care to whether the arrangement affects the company’s future ability to engage in a sale with a buyer that could be a competitor of the customers or suppliers with which you have the alliance.
Don’t Always Swing for the Fence
Over the years, I’ve found that many, if not most, company founders believe their company will be a gigantic success or will fail—a proverbial home run or a strikeout. But, my experience is a company’s success, and ultimately its sale value for shareholders and management, usually falls somewhere in between, say a single, double or hit by a pitch.
In the context of a sale, success may be financial, commercial or psychic. If you’re focused on financial success, measured by maximizing shareholder value, the question should be whether it’s better for existing shareholders to take in new capital or sell the company now. Sometimes a 2-year-old company sold for tens of millions of dollars will return more to the founders than a mature company with a valuation many times that. Careful planning can assure there’s some investment return for all stakeholders when the ball hasn’t quite left the park. Additionally, in sale transactions, there may be opportunities to receive value for performance after the sale; for instance, in the form of an earn-out, so the company can be sold even if the upfront purchase price isn’t all you hoped for.
In today’s financing markets, there are also opportunities to provide liquidity for shareholders, by virtue of selling a portion of the company to a private equity firm or other financial investor, in a recapitalization transaction, thereby arbitraging risk and reward for continuing to operate the company for future growth.
Be True to Your Own Narrative
Every growing payments company has its own culture and style of doing business, and different characteristics and objectives. It’s vitally important, therefore, to look honestly in the mirror when considering a sale to assess your motivations, confidence and lifestyle needs. Ask yourself these questions:
- What motivates you and your investors: the highest selling price, selling to a company you most like and respect, seeing a product to market, cultural fit or something else?
- How confident are you and your investors in your company’s future as a standalone entity: Does the company have sufficient resources to get to the next level? Would shareholders rather take the risk and hold out for a potentially bigger future success?
- How would a sale affect your lifestyle: Would having enough money in your bank account now to provide for your personal needs for the indefinite future be transformational? Do you want to work for the acquirer? Could you and your team survive working for someone else?
At the same time, ask yourself what makes your company special or desirable to the acquirer. Is it the technology, the team, the business model, the market share or customer base, the financial performance, the culture, the potential to accelerate the acquirer’s product or business development? Or, is it something else?
Your answers to these questions should help determine when and to whom to sell, and how best to negotiate.
Lead a Great Team
Large corporate buyers and private equity firms are highly skilled in M&A and spend lots of money on professionals responsible for sourcing, negotiating, financing and closing deals. So, your team—likely including accountants, lawyers, a financial adviser (investment banker) and other third-party consultants, as well as key members of the management team and board—must have the requisite level of sophistication, experience, industry knowledge and loyalty to level the playing field. This is often difficult for a smaller company to appreciate until it’s too late. Your deal can’t be on-the-job-training for your advisers, even if the issues seem readily understandable.
A longtime client of mine, who built several enterprise software companies and is truly a genius, once told me, “You don’t understand anything I do, but I understand everything you do; all these things you keep telling me are intellectually trivial.” To which I replied, “You’re right, of course, but the question is whether you’re picking the right trivial thing to do at the right time; that’s where experience counts.”
Just as important as getting the right team members and advisers is for you, as the CEO or company owner, to control the process and lead the team. Helping the team understand your objectives and priorities along the way is critical. And if you aren’t already knowledgeable about venture capital or the M&A process, terms, law or lore, this is the time to learn the basics in collaboration with your advisors, so the right decisions can be made at the right time.
Understand the Deal Market, but Don’t Bow to It
Your advisors should have access to various databases showing M&A market trends for the payments industry and fintech. These resources provide an idea of how companies are being valued and what deal terms are prevalent. It’s also often possible to get market intelligence from publicly available documents about a company’s acquisition history. Well-armed with this information, my advice is to avoid deferring to “What is market?” in negotiations. Your company is unique, your objectives are your own, and what you get in a particular deal is what you’re able to negotiate.
The right reply to the “market for the industry” comment you’ll inevitably hear from a suitor is: “We don’t care what is market; we only care if it’s reasonable and whether you’re willing to do it.” Generally speaking, the best deals take into account market precedent but are customized to address both parties’ reasonable objectives.
Keep Competition Alive
Absence of competition often depresses the value the seller ultimately receives and keeps after all price adjustments and indemnities are taken into account. But, no deal is done until wire transfers have been initiated—so your goal is to keep competition alive.
A sophisticated buyer works to end the competitive process as early as possible. Its goal is to prevent the seller from working with other potential bidders through legal agreements or by making further discussion impossible in a practical sense (for example, by enabling the buyer to be in touch with your employees or customers too early or getting distracted to the detriment of your business).
You should maintain a competitive process until the last possible moment by insisting on a binding agreement and refusing to sign an exclusive letter of intent. Where this approach isn’t feasible, you can ensure the letter of intent is detailed so as to avoid material misunderstandings and disagreements. You also can endeavor to sequence the process so major due diligence items are out of the way early; thereby increasing the likelihood the deal will close on the terms negotiated.
Another form of competition is when there’s a real possibility that the company will remain independent if the sale gets off kilter. To maintain this leverage, it’s vital to continue business as usual and line up adequate capital to do so. Sometimes preparing for an IPO is a viable alternative to make this point.
I’ve worked with payments companies in which the precursor to the sale transaction is the insistence by a strategic customer that the company enter into an exclusive commercial arrangement or convey valuable intellectual property rights. Yoking your company to a larger corporation on commercial or IP matters can be tempting, but such an arrangement often becomes like a sale—but without shareholders receiving the benefit of the purchase price. Sometimes, then, pursuing strategic alliances, but refusing, ultimately, to provide exclusivity, can lead to an acquisition overture if the product, service or technology is perceived as mission critical.
A favorite client likes to say: “Time kills deals,” meaning every transaction has its own fragile rhythm and life cycle. But, equally true is that time nurtures deals. To paraphrase a popular pharmaceutical commercial, it’s important to be prepared so you’re ready when the moment is right. And, in the case of selling an emerging growth company, being ready isn’t as simple as swallowing a pill on the eve of a transaction. Being ready is most effective when readiness is part of a company’s DNA.
Readiness acquired as a result of thoughtful, ongoing, consistent planning paves the way for periodic evaluation of a company’s strategic options and the ability to act—or not—based on those evaluations. Why bother? Because every one of the recommendations discussed in this article contributes to creating greater value for your company if or when the time is right to sell.
Robert P. Zinn is practice area leader of the global corporate practice at K&L Gates, one of the world’s largest law firms, with offices across five continents. Bob provides transactional and strategic advice to emerging growth and global middle market companies, as well as leading multinational corporations and private equity firms. He has significant experience in M&A and financings in financial services and technology and has represented companies in the payments industry for more than a decade. Bob recently was featured in Mergers & Acquisitions magazine’s selection of K&L Gates as “Law Firm of the Year,” in which its representation of TxVia in its sale to Google was highlighted. He can be reached at [email protected].