With the onset of the coronavirus pandemic, many startups are finding themselves in a fix. According to various industry reports, about 70% of these nascent companies have a cash flow runway of only a few months before they would need to shutter. That’s the worst-case scenario. While every founder dreams of taking their company to a unicorn status or getting to the bourses with an IPO, a start-up founder also needs to take into consideration the realities of the black swan event we are facing right now.
Not only have supply chains been dismantled by the pandemic, but VC funding has also dried up in the last few months. That the Indian government has made its FDI rules more stringent to keep away Chinese investors from picking up young companies at a discount amid the trying times is a double whammy to startups in dire need of cash.
Amid these uncertain circumstances, it is a good idea to look for viable exits. A couple of weeks back Sequoia-backed Ed-Tech startup White Hat Jr was acquired by Byju’s for a whopping $350 million. White Hat was at a critical juncture in its journey — with sales booming as parents look to keep their children engaged in worthwhile pursuits during the pandemic, the 18-month old company needed to scale up fast to capitalize on the opportunity. As such the acquisition would help it ramp up its presence across global markets as it makes forays into the US, the UK and Australia in the near future.
The portfolio rationale
There is new thinking that startup founders should invest their time in ventures like a PE/VC fund that invests money in a portfolio of several promising ideas. Tying oneself down to a single startup for a long time means a huge opportunity cost for founders — they are losing their best years in expanding one company rather than building more valuable businesses. To that extent, a $1-billion fund called Think3 has started giving a start-up founder $500k as angel investment or $1 million as an equity investment for their next venture after a successful acquisition.
More importantly, founding a company might be only one of the several things that a startup founder is interested in. For example, White Hat Jr founder Karan Bajaj is a yoga practitioner and writer too. He says that he wouldn’t start another company. That’s a journey whose logical end has come and he would like to move to exploring other exciting pursuits. As such a good and timely exit might help you follow your other passions too.
Types of startup mergers and acquisitions
All startup M&As aren’t the same. Generally, all of them can be classified in three brackets:
a) Acqui-hire: In this case, a bigger company decides that a particular function of a startup is really good — perhaps the engineering team has a string of great problem solvers or the product team has a number of interesting things in the pipeline. While poaching those employees is always an option, it is not a smooth one. You can’t be sure if all of them will choose to make the transition or not.
b) Product buy: The build vs buy is one of the biggest conundrums in unicorn land. When you are growing fast and have a lot of cash to spend, it’s too time-consuming to build a new product or vertical from scratch. Absorbing a company which already has a successful product is a better bet than spending a year in creating an MVP and then a GTM strategy.
c) Strategic buy: This kind of start-up M&A could be struck on a synergistic note — for example, the number 2 and 3 players in a market merge because the company in the pole position is way ahead and is looking to corner their market share. Strategic buy also refers to a situation where a much bigger company acquires a smaller one to enter a new market in which a smaller start-up already dominates — examples are Facebook’s acquisition of WhatsApp and Instagram.
Whatever the motivation of an M&A, it is of utmost importance to get your house in order before you start looking for the best deal. There are a lot of stories of startups getting caught up for months in due diligence and the deal falling apart at the eleventh hour because of some discrepancies. Make sure that your IP is your IP — buyers would like to confirm that no copyright infringement lawsuit crops up later. Go through all your metrics and separate the wheat from the chaff — it’s very unlikely that you will get away with vanity metrics and inflated numbers. Most importantly, have a session with your core group of employees and make them understand why they stand to benefit. Be it launching a new product or getting ready for an acquihire deal, the bedrock of success in start-up land is that the most important initial hires are convinced that the company is going down the right path.