Companies Don’t Sell
don’t companies sell? Over the last two decades working in the
technology M&A space, we have worked on a number of assignments
that did not result in a closed transaction. What common themes emerge
from these experiences?
We are discussing the sale of technology
companies—software, hardware and intellectual property. These types of
companies are acquired for their technology, not for their revenues or
profits. The best buyer is the one to whom the technology is the most
strategic. So, these are strategic transactions.
These firms are
seeking to be acquired generally because they lack the significant
capital to effectively penetrate their market. They may have
experienced a minor setback: taken longer to develop the technology,
shifted market focus, or had a management issue. The best way for the
company get to the next level of growth may be to team up with a larger
player with greater resources rather than raising additional capital
and attempting to crack the market on its own.
Three themes emerge:
- The problem has been solved
- The market space is polarized or
- Price expectations are unrealistic
1. Problem Solved
most common reason that a technology company doesn't sell is because
the potential buyers have already solved that particular technology
problem. Buyers have either developed their own solutions in house,
licensed similar technology, or acquired a competitor.
selling company may have excellent, even superior technology, but
unless it is remarkably better, an acquisition is unlikely to occur.
Most technology companies are sprinting as fast as they can and can’t
bother with replacing or upgrading technology if their current solution
is good enough.
is critical. The first company in a market space to pursue being
acquired has a real advantage because the potential buyers have not yet
developed solutions. For a company that goes out too late, most of the
likely buyers have already developed, licensed or purchased a solution.
If a company decides to sell too late, the greater the probability that
potential buyers have developed an alternative.
The lesson: Keep
a watchful eye on competitive solutions in your market. If other
solutions exist and your company isn't getting its products to market
on time, start thinking about strategic alternatives.
2. Polarized and Fragmented
aware of the dynamics of fragmented markets. If a market is polarized
or fragmented, finding an acquirer may prove difficult. In
polarized markets you find two sets of companies: big fish and little
fish. The big fish are so big that an acquisition under $30 million is
simply not substantial enough to put a dent in their revenues (say,
over $1 billion). The little fish are often in the same situation as
the seller—trying to get to the next level of growth, but they are just
treading water. (Can fish tread water?) Smaller companies rarely have
the wherewithal to make an acquisition. What about the mid-sized
companies? Generally, there are very few mid-sized companies in
In one market we explored, the space was
totally fragmented with more than 400 companies and only five big
players. The big companies had good technology and did not care about a
few additional customers. A roll-up opportunity, you say? I doubt it.
The history of roll-ups is dismal. Not enough value is created.
lesson: Unfortunately, there is no lesson here; at least, not one you
can do anything about. The market is the way the market is. Be aware of
the dynamics of fragmented markets.
3. Unrealistic Expectations
the asking price is too high, buyers balk at spending the significant
time and effort required to evaluate a potential acquisition. Time is
at a premium in the technology arena, and companies have plenty to do
without exploring overpriced acquisitions. Unrealistic expectations
result from two primary factors—bogus comparables and shareholder
comparables are insidious because management can convince themselves
that they are legitimate. I cannot tell you how many times I have heard
this story: “Acme Corp. sold two years ago for 3.5 times revenues and
our technology is better than theirs, so we ought to sell for at least
3.5 times revenues.” First of all, two years ago is an eternity in the
technology world; the market has changed significantly since then.
Secondly, the valuation was the result of a strategic sale. Acme’s
technology was a very good strategic fit for the buyer. It had little
to do with revenues.
Value is strategic in the technology
markets. The price of an acquisition depends on how strategically
important the technology is to the buyer. Acquirers are buying
technological capability, not revenues—so multiples of revenues simply
are not relevant. Quoting revenue multiples is kind of like a
capitalist version of “Post hoc ergo propter hoc.”
How do you
know what price to ask? This is not easy because value depends on the
market, not on the intrinsic value of the technology. In fact,
technology rarely has any intrinsic value. It is worth something only
in the context of the marketplace. If no one wants it, it is worth
zero. Valuation in the technology markets is more art than science.
issues come to a head when money is on the line. Founders and venture
capitalists can be at odds about who gets how much. In one deal we were
involved in, we had an excellent buyer in hand. As negotiations
progressed, a problem surfaced between the founder and the venture
capital firms. After several rounds of financing, the founder had been
diluted to less than 10% ownership. He still viewed his role as
critical and wanted the VCs to give him and a few managers a bigger
piece of the pie. He wasn't being that greedy; he actually had a good
point. However, it was the VC’s money; they had taken the financial
risk, and the idea of reducing their share was not palatable. Both
sides had valid arguments. The parties could not resolve their
differences and no transaction ensued.
In another situation, the
venture capital backers were seeking liquidity because their fund was
at the end of its life. After nine years of lackluster growth, it was
time to sell the company and move on. The president, however, wanted to
continue building the company. He wanted to stay in the game and if he
was going to sell, it was going to be for a very good price. The
venture capitalists liked the idea of a very good price as well. In
discussions with potential buyers, the shareholders were firm at the
high valuation. The market said no dice.
If the president thinks
he can still grow the company, his valuation belief is often based on
what the company could be worth rather than what is actually is worth
today. And, of course, there is the classic case in which each of the
three founders wants to net $1 million (or some other even multiple of
millions) regardless of what the market says.
The lesson: If you have decided to sell the company, our advice is to
go get as many offers as you can and take the highest one.
president of a company may have objectives that differ from the
shareholders or venture capital backers. The venture capitalist has the
portfolio effect working in his favor; the president does not.
the president may not want to sell, but has been directed to by the
board. Ego can be a problem. The president doesn't want to admit
failure. He or she believes that with just a little more money, success
is right around the corner.
A situation we are seeing more
frequently is when the president’s options are not yet in the money;
the CEO will profit only if the company is sold at a very high
valuation. This situation can be subtle because it might not surface
until late in the negotiations. A president may be better off
financially by running the show and earning an attractive salary. His
equity stake may be too small to truly act like a shareholder.
The lesson: Make sure the president’s interests are truly aligned with
those of the shareholders.
are many reasons that companies don’t sell. The message to glean is
that when you are having problems or are slow getting to market, don’t
put off examining your strategic alternatives.