Jacques Mattheij

Technology, Coding and Business

How to Sell Your Company

A while ago an anonymous HN user wrote an ‘Ask HN’ titled: “HN: Just received an offer for our company, what now?” That thread contained some of the best advice that I’ve seen on HN and with the thread now deleted (for good reasons, which is why I’m not linking to it here) and my promise to summarize it, I felt I should do as good a job as possible to organize the advice in that thread in a more structured form, which is why it took quite long to do the job.

This post is a departure from my normal posts in that in every other post here the words are my own. This one is an exception in that both some of the words and some of the ideas in it are not mine, but belong to the writers of the comments in the HN thread. This post is probably much too long to be consumed in one sitting, either file it for the day that you will need it or take it bit-by-bit.

While the original posters’ situation is quite specific, much of what is written here will apply to other situations in which one corporation plans on taking over another, and you could use it looking at the deal from the perspective of both the buyer, and the seller. Some of the advice here may sound like common sense, but it is surprisingly easy to get carried away in the heat of the moment, and even professionals can get caught out by forgetting one or more of those common sense elements.

Before you go and implement any of the advice in this article

Note that probably the most important piece of advice is: no advice is final. There is no exact formula or algorithm, there is no fair price for anything, there are no absolutes.

Situations are fluid and in spite of all the work that went into making this, it is definitely not the final word, you are the final word and you will no doubt find stuff here that does not apply to you or your situation, and you will come across questions that this piece is of no help whatsoever in answering.

If you do, please feel free to send me feedback, either through jacques@mattheij.com or http://twitter.com/jmattheij

Any mistakes or errors are mine, credit for what follows goes to the following HN users:

Grellas (HN’s resident legal eagle), cperciva, founder001 (OP), nandemo, SkyAtWork, petervandijck techiferous, brk, drusenko, umalu, jaxn, anon88787, JVerstry, sucuri2, ShanePike, LorenFykes, buckwild, mtr, switch, ndl, anonfoobar, crifici, aditya, Umalu, car, agnesberthelot, exit, gallerytungsten, eddanger, neworbit, dj_axl, anatari, retube, dasht, iamchmod, anon88787, ScottBurson, davros, kul, whalesalad, gfodor, netdog, mrphoebs, firebones, staunch, rexreed, melvinram, tastybites

1. First Some Context:

The original poster of the article is the founder of a bootstrapped start-up with one co-founder. They have been profitable for some time. They have a fairly limited playing field in terms of companies that are ‘in the market’ for a possible buy-out.

A large company has been courting them for some time and they’ve received a substantial verbal offer.

Even though the offer is lower than their ‘accept’ price, it is obviously interesting enough to see if the parties can get closer to each other so that a deal can be struck. The offer is a ‘stock only’ offer, with a 4 year vesting period and there are worries about the buyers pulling stunts like firing the OP and/or his buddies the day after the deal is done. Obviously they’re excited, but they’re afraid to make a mistake that will be impossible to reverse, and they’re already thinking about what they will do with their new-found freedom post-acquisition.

The purchaser is clearly the more experienced party here, and they’ve pushed every button available to get the target to accept the offer as made without further conditions, the pressure has been dialed up to ‘max’. On top of that they’ve had some offers from lawyers and investment bankers that want to get in on the deal, and it is hard for them to figure out what their motivations really are.

They do not have a LOI (Letter Of Intent).

And with that, the meat of the original post ends. Basically, they are not sure how to proceed, the next step is one large question mark. This is a situation that all first-time founders that have not yet sold a company before could very well find themselves in, and even experienced businesspeople that have had one (or more) exits would do well to pause for a second here and review their options.

If you are in this position, I think that the first words should be ‘congratulations, you have a luxury problem’. Think about the odds of this happening at all. Bootstrapped, profitable, no other investors besides the founders, fair sized offer on the table from a reputable company. Most start-ups never make it that far. But there is work to be done here, and lots of it if you really want to maximize your chances of getting a deal done, and even more work still if you want to get a deal done that you will be happy with, and that is close to the maximum that you could get. Fortunately, you are not alone in having to go through this process, and those that have gone before you may be able to help make the process easier.

To make this article as easy to read as possible (in spite of the length), I’ve made it into a series of items. Each of those could be an entry on a checklist or a ‘to do’, or just a piece of common sense. There are two levels of items, a higher level with the big groups of items to get some overview, a lower one with much more detail.

2. The Process

Selling a company is a process, not an instant

The media might give you a different impression where you read on one fine Saturday morning that company ‘x’ acquired company ‘y’ Friday just after the market closed. In reality though, it is very likely that that is just a formal announcement timed very carefully to avoid regulatory troubles. The deals that I’ve been a part of typically were negotiated out over a period of weeks or months, sometimes even more than a year with all the parties involved sworn to secrecy while the deal was being hammered out. And the number of people involved in those deals was quite a bit higher than the press release would make you believe.

Typically there are a number of steps that such negotiations go through until the moment of the actual signing. Some of the steps can be abbreviated or even omitted based on how well the parties know each other, each others businesses and on how long they are in existence. For instance, when a start-up that is 6 months old is acquired it typically makes no sense to do a very large financial due diligence.

But usually the format is adhered to quite strictly, especially if the acquiring party is a publicly traded company you can expect all the i’s to be dotted and t’s to be crossed.

The process ends when either two parties have closed a deal or all possible buyers and/or the seller have withdrawn from further negotiations.

Typically the sequence of events is:

preparation

In this case the sellers seemed to be somewhat unprepared for a takeover bid, so they had to do all their preparation after negotiations had already begun. That’s late, and in my opinion too late. If you are in the un-enviable position of having but one possible buyer then you had better be ready for when they come knocking.

Normally the decision to make yourself available for a buy out is something that you do long before a suitable buyer appears and keeping an information memorandum up to date is a lot easier than preparing one from scratch.

marketing

Marketing means to literally market the sale of the company to various parties.

The IM can be sent to multiple possible buyers (for instance, strategic buyers, parties that operate in the same field but not in the same geographic region, competitors or parties that simply see the target as a great investment). Each of those will have their own motivations why they might like to own the target and each of those will look at the IM through different tinted glasses.

negotiation(s)

Negotiations is the phase where the deal structure and price between the seller and potential buyers is determined, and, presumably weighed against each other and the possible alternatives. In the end only one party (or none!) will be left over to enter the next phase.

During the negotiations you aim to maximize your price and to minimize your risk. Up front cash carries a lower risk than proceeds based on earn-outs or equity in the buyer.

Letter of intent (non-binding offer)

A letter of intent is a way of making sure that both parties are on the same page as to what the main points of the deal are, and it will serve as the basis for the long form contracts assuming that the deal structure remains unmodified and that there are no surprises during the due diligence. At a minimum it will outline the shape of the deal and mention a price and how the payment is structured as well as a sketch of the situation post acquisition. Even if there were multiple candidates up to this point, once a LOI is signed it is presumed that no more shopping around will take place and that further steps will be taken with one party only. Sometimes a letter of intent will explicitly contain a ‘no shopping’ clause. If the deal should fall through with that one party other contacts can be revived but typically this will qualify the seller in a negative way unless the reason why is clearly to be laid at the feet of the buyer that broke off the negotiations. Think long and hard with who you want to proceed to the LOI stage.

Due Diligence is next to negotiations probably the most time consuming component of selling a company, this is where all the material previously disclosed which was used to determine the non-binding offer gets verified to make sure that everything is indeed the way it was stated to be. Surprises during due diligence are almost always really bad for the seller, they can cause the terms of the deal to be materially altered, big concessions to be made or the buyer to walk away because of a loss of trust.

It is not rare at all to find minor issues during due diligence, typically these result in a list of recommendations, things that should be fixed before or immediately after a deal is consummated.

Just like a buyer has the duty to do due diligence, the seller has the obligation to inform. All of the professionals doing due diligence will operate on the assumption that you are telling the truth, you are in immediate hot water if you are caught doing anything but that. Also, typically lawyers, CPA’s and others will state explicitly in their reporting that they are operating on information that you supplied.

Hiding things that can be of material impact to the deal can come back to haunt you later on, usually the long form contracts will contain clauses that stipulate quite clearly what the penalties are for false representation or omissions, full disclosure and transparency are key here.

If you’ve been operating for several years your books will need to have the seal of approval of a registered accountant, you will need to conform to all business regulations, HR laws, permits and so on. The harder you pushed during the negotiation phase the harder due diligence will be used to push back.

Long form contract preparation

The long form contracts are a very precise re-statement of the terms in the letter of intent, possibly modified due to the things discovered during due diligence and written in such a way that they leave the absolute minimum room for interpretation. This is the phase where your corporate lawyer and other ‘wise old men’ will earn their keep, remember though that you are still responsible and allow yourself to be educated on all the bits and pieces that end up in the contract. Mistakes made during this phase can be very costly in the long run.

Typically the long form contracts are accompanied by other documents that are part of the whole package, such as employment contracts, asset lists, warranties and other supporting documents.

Closing

On closing the signatures of the parties executing the contract are placed and the deal is ‘done’, the only thing remaining then is the payment of the agreed upon amount and the transfer of any other stock or assets according to the contractually agreed upon terms.

Because the process of selling a business can take anywhere from days to more than a year it is very important to realize that you have to continue to run your business in the meantime and to remember that that is still your first priority, and not the sales process.

Selling your company is very important but if the company should stop running smoothly, stop growing or even fail whilst you are trying to sell because you spent too much time on the sales process you end up back where you started or worse. So there is an immediate opportunity cost to the process of selling your company (reduced time available to concentrate on the business) and if you’re not careful that cost might become very large.

Take Charge

When you’re selling a company you are likely doing something that will happen at most several times in your lifetime and you absolutely need to make the most of it. Taking charge means that you take control of the process of the sale. Of course it is much easier to become passive and let ‘others’ take care of things (for instance, the buyer!), but that way lies misery. Nobody but you has your interests 100% at heart and if you really care about your company, your co-founders, yourself and if you have them your users you will take charge now.

If there was a time when you were needed then now is it, this sort of thing is where the men are separated from the boys (or the women from the girls), and this is what running a company is all about. Anybody can click together a website or an ‘app’, but not everybody is able to step up to the plate when the pressure increases and failure is not on the menu. Do this well and you will look back from well deserved comfort, mess it up and you will be kicking yourself in the rear for a long long time. If you think that sounds overly dramatic have a word or two with people that did either ‘the wrong deal’ or that let a ‘done deal’ slip through their hands.

The right response to an unacceptable offer is a counter-offer

If you are actually interested in reaching some kind of agreement and you receive an offer that you think is not acceptable to you, tell the other party you will take their offer under consideration and carefully study it. Which elements do you like, which are the ones you have problems with? How can you re-structure the offer and change it so that it becomes acceptable to you? Then go ahead and change it! And make sure that you can live with it, of course, in cooperation with your advisors, your co-founder and so on. Add in some ‘negotiation room’ (anywhere from 20% to 100% over what you would consider the value of the company to the buyer), then send it back. Negotiations are now under way. If a buyer is not willing to discuss an offer you have to ask yourself if that is the sort of partner you want for your business. A negotiation process is educational, both you and the buyer(s) will learn what your true value is based on arguments presented and analyzed by all parties. Either way you’ll get stuck in a loop or with terms that you will not agree on or you will find common ground. Outside advisors can help here, but you will be doing the real work of explaining your motives and the reason why you think your company is worth what your counter offer says it is. Treating an offer as an insult is counter-productive, simply see an offer as someone picking up a rope and inviting you to a game of tug-of-war. If you pick up your end and start pulling the game is underway, you might not get a deal but regardless, you will learn about negotiations and tactics, and that’s the minimum you will gain, priceless lessons to be learned there. Don’t like the outcome? Then don’t sign a letter of intent!

One important part here is that being overly rigid, for instance by adhering religiously to what you think your ‘best alternative to a negotiated agreement’ (‘BATNA’, see wikipedia link below) is, will cause you to be closed-minded about good arguments. Chances are that as you learn more about your company during the negotiation phase that you will re-interpret your alternatives with this new found knowledge and will reach different conclusions than before.

Negotiating is all about finding the overlap between the two regions that both parties are willing to explore to enter in to a lasting agreement, and what may seem to be ‘beyond dispute’ at the outset may very well seem like an untenable position at the end of the negotiations.

You owe yourselves and the buyer a good deal

A deal that has been negotiated by open minded and honest people will bring a lot to light about the future post-acquisition. Negotiating from a strong position and being able to go through the whole process in a way that does you credit will go a long way to establishing the mood for the future, it will also earn you (possibly grudging) respect from the buyer. Folding over like a two bit piece of tin is not going to earn you any respect and is going to cast doubt on your ability to function as a future representative of the buyer, the most likely position you will find yourself in anyway.

Nobody approaching you? Start Anyway!

If your eventual goal is to be acquired by some other company but no suitable candidate has arrived yet it does not hurt one bit to start talking to co-founders and finding advisors (both legal and others) rather than to wait until a suitor presents themselves. By starting now you can save valuable time later and you’ll be able to respond in a much more solid way. You will also be able to spend more time on thinking about what the boundary conditions of any deal should be and you can discuss all of this without any time pressure or other limits in place. Typically, the best decisions are made when you are in a position of strength and you can use the time between your decision to aim for acquisition and the actual deal to strengthen your position and in increase your knowledge. You can also use this time build up a network of advisors and to establish contact with the parties that will play a major role in such an undertaking. Like that you have time to build up trust, possibly to replace parties that do not perform to your liking and to make sure that you and your co-founders are all on the same page. If you need to do any or all of that after an offer has been made you have very little time to do all of that right. While doing all this you may find that one particular party looks like they’re the ideal partner for a merger or an acquisition, it may well be that initiating talks with them will lead to exactly that but be careful here, the one that approaches technically is at a small disadvantage.

The spoken word means nothing

In the M&A arena what someone tells you means literally nothing. Paper is what counts, preferably paper with a signature on it, and that signature should be by someone that has the authority to place it. I know that sounds overly paranoid but what someone tells you and what someone is prepared to commit to paper may be worlds apart so be sure you get that written confirmation on a piece of paper with a signature underneath it before you adapt your strategy and other parts of your planning. Even then, the above still holds: the deal isn’t done until the contract is signed and the payment is received. Until then anything can happen. Once you have a paper trail that you can build on with a solid offer and an agreed upon terms sheet you can start to hammer out the final contract. This is where your lawyer and you will be working overtime making sure that all the items that you thought were so important in the offer have actually survived in one piece in to the final agreement in a way that they are not conflicting with each other and are not open to multiple interpretations.

Don’t kill the process until you’re sure that there is no way to get a good deal

But kill it swiftly as soon as you come to that conclusion. There is absolutely no point in pursuing a deal that will not make you happy, so once you realize that the negotiations with a party are not going anywhere any time you put in to it is simply lost. But before you reach that point, if you kill the process and there was a chance to make it work you’ll be scratching your head about that for the rest of time. So better make sure! It’s easy to kill a process, next to impossible to revive it after you’ve done so.

A deal is not ‘done’ until the contract is signed and the money is in the bank

So until then don’t get too happy. It is not at all uncommon for deals to fall through at the last possible moment. It is also not uncommon for you to not even be told why the deal fell through. Nobody has any real obligations to the other party until the contract (and not the LOI, nor a termsheet) has been signed. Of course, the further you are long the path to completion the smaller the chance, but the chance does not reach ‘0’ until then. If you have a signed LOI you have not yet sold your company, if you have a termsheet that both parties agree on then you have not yet sold your company. All that matters is the final contract and any pieces of paper that go with it (side letters, employment contracts and so on) and the payment in whatever form it takes. Until then, there is no deal.

3. Alternatives

When you’re thinking about selling a company and enter in to negotiations with one or more parties make sure you realize that there are always alternatives to selling, and that the best deals are made by the people that were the most aware of what their possible alternatives where (and realistically so, not daydreaming).

For a negotiator the way to approach the problem without an alternative is like being a pilot on their last chance to approach because they’re out of fuel. You need to know your alternatives and you need to know the ups and downs of those alternatives. There is no point in negotiating from a fantasy fall-back position against an experienced party, you’ll get clobbered. And to negotiate without knowing what (roughly) continuing to run your business independently for the next couple of years will bring you is just as silly. Do your homework, know your fall-back positions, their order of priority and the ups and downs of all of them so you can make meaningful comparisons.

Always be prepared to walk

At any time during negotiations if you feel that all avenues have been exhausted and you have not been presented with a deal that would make you happy, simply walk. When you’re profitable and the business is growing you really should not be too desperate to sell. Being prepared to walk is the only way to getting close to maximizing the true potential of the deal. To walk is not to lose, it simply means to continue.

No deal is better than a bad one

If you can not make a good deal, don’t make a deal. It’s as simple as that. Not making a deal that you think is good keeps the door open to making one that is good, if you make a bad deal there is no going back. Lots of times initial negotiations don’t work out, then later the parties get back together after thinking things over for a bit, potentially gaining new insights based on more or better information. This may cause former breaking points to become new common ground and negotiations may get under way again. Even though elsewhere I wrote that if a party breaks off negotiations they’ll find it hard to start them again that’s the same ‘round’, nothing stops a party from contacting the other a few months (or even years) down the line to see if there is still room for another round based on a significant new insight or willingness to move on one or more of the sticking points.

That doesn’t change the main point of this item though, better to be free to make a good deal or to continue down the path you are on than to make a bad deal.

Don’t lose your head!

What was your original goal when you started your company? If it was to stop working for a big company and to chart your own path, think about whether or not selling to a large company with a mandatory employment period (with serious consequences in case you break that contract) is for you at all. After all, if you’re happy doing what you are doing and you did it to get out of the treadmill, running back in is potentially a big mistake. In that case it might make much more sense to continue or to even suggest a lower offer but 100% in cash and walk away free after the deal has closed, start another company or do whatever else you want. If the offer is partly in cash and partly in stock (with a vesting period) you can’t just quit if you don’t like the situation post acquisition. If you value your freedom, you should have the strength to put a price on it. And if the deal does not give you what you want and you’re profitable then simply wait.

Also, while it’s fine to check out the grass on the other side of being acquired there really is no reason why you have to make that particular deal, or even any deal. Think of it as dating to see if the other party is of marriage grade according to your standards. If they’re not, move on.

Variations on a theme

One way to create an alternative is to diversify, either find different niches that the same kind of product can be adapted to. Or, alternatively see if you can enter geographic regions that you currently have no customers in. It usually is a lot easier to create growth by varying the theme than it is to start from scratch so consider that in your list of possible alternatives.

Where there is one there might be more

Just because this offer came along you are not in any way obliged to accept it. In fact, if there is one thing you’ve learned it is that some party wants to acquire you, and if they have a direct competitor (or more) chances are they too might be in the market. Consider pitching other parties that you identify as possible buyers.

They might be back

If right now the distance between the two points of view is significant and you feel no deal can be struck it’s fine to end the process. Maybe in a year - or two - they’ll see things your way. If you succeed in expanding your reach (possibly at the buyers expense), continue to grow and improve your product then chances are that a (much) better deal can be had in a while.

The good thing about being profitable and growing is that you’re negotiating from a position that is strong and getting stronger. Time is on your side. They might be back with a much better offer.

Go and find some capital

With an offer to sell in your pocket you will find that this validates your company in the eyes of the financial world in a way that not much else does. It could very well be that doors that were closed before now open smoothly and that you can find financing to accelerate your growth significantly. With a good plan and solid figures you could very well increase your value well beyond the present figure to aim for a much more spectacular exit. Keep in mind that there is an element of risk involved in this strategy, chances are that you’ll become literally too expensive to be acquired by the possible buyers in your niche.

Just keep going

If your profit margin is good and your growth is significant then one very simple alternative is to simply keep going. It’s an easy sum to make, average the profit growth over the time that you’ve been gathering that data, extrapolate in to the future, add a safety margin and see what the net take home is over the period that the stock in the buyer vests. Compare that with the offer and if the two are too close you are probably better off to continue to run your business.

If you want to have your hands free

To work on other things and that’s why you plan on being acquired be aware that most buy-outs include a pair of very nice golden handcuffs for the founders to make sure that they don’t run off in to the sunset with their new-found riches. The reason for that is obvious, if the founders were to split immediately after doing the deal the company that was acquired might collapse. The more an acquisition is a ‘talent acquisition’ the stronger these handcuffs will be. So if you plan on doing ‘other stuff’ after being acquired then you might be signing up for something completely different. It may be possible to do your ‘other projects’ right along the one that you’re doing currently, and with less obstructions than after a take-over. (by the way, that’s how twitter was launched). That way you get to keep the Goose that lays the golden eggs and you have your hands (somewhat) free.

One way of approaching the various choices is from the point of ‘least regret’. Whatever choice you make assume the worst case scenario associated with that choice is the way it will play out and weigh the various alternatives based on that.

Things that you might regret:

  • not doing a deal (especially if this is your first 'exit')
  • doing a deal with a price that's too low
  • not having your hands free
  • being cheated
  • being stuck in a job that you don't like
  • working for a company that does not share your vision
  • finding out there were other options after the fact

Each of those (and the untold numbers of items you might regret that are not in that list) can be weighed and to some extent mitigated.

4. Deal Structure

A million dollars in cash is not the same as a million dollars in stock

That seems like a pretty obvious statement to make but lots of people are unable to see the distinction. Stock that you get in a buy-out typically comes with strings attached. The usual clauses will limit your ability to liquidate that stock based on time, performance and all kinds of other criteria that need to be met. Stock has an inherent risk. Even if you are allowed to sell, you may find that the stock is no longer worth what it was worth when you were bought out. All stock deals are great for the buyer, not so good for the seller. If you want to mitigate some or all of this risk you will have to negotiate a deal where part or all of the deal is in cash. Typically buyers do not like ‘all cash’ deals in high tech companies because they would like the team to stick around post-acquisition. And typically sellers love all cash deals because it gives them the freedom to walk away. Parties that are serious will usually decide on ‘a bit of both’, where the risk factor becomes mitigated by doing a part of the deal in cash, for instance to guard against the parent company going South or a stock market collapse. This ‘cash’ portion of the deal will likely not be done at the same ratio as the stock part, the fact that the risk is mitigated will translate in to a lower amount of cash. Risk has a value and cash has relatively little risk compared to stock, the mission here is to find a number that all parties agree on represents the value that was built to date and to pay that out in cash, and a staggered reward based on the future performance. Typically value that is there today should be reflected in the ‘cash’ portion and value that is still to be built in the ‘stock’ portion. In the words of George Grellas:

“The idea of vesting is to prove that founders can build value before getting rewarded with their stock. When founders start, they usually need to build in some form of vesting to prevent one of them from just walking away with a windfall while the others continue to work hard to build value in the venture. Even then, however, if founders have already build some value before the formal structure is put in place, they will take their restricted stock grants with some portions immediately vested (usually 20% or so, maybe up to 33%).

At Series A, the investors might insist that founders restructure their stock positions so that they have to vest at least a significant part over some period. This can vary but usually means that the founders get cut back so that only, say, one-third of their stock is vested, with the balance subject to vesting over a few years. This ensures that the investors will not get screwed and that the founders will earn out their positions as they use the investors’ money to continue to build value.

Finally, at the M&A stage, the purchase price is sometimes divided between a cash/stock portion that is given outright to the stockholders and another portion (usually an option grant) that needs to be earned out. The basic idea behind such a division is that x amount rewards them for the value they have built and the balance will reward them for continuing to add value in the future. Usually, the x part is by far the largest part of the consideration, with the balance (the part that needs to be earned going forward) amounting to, say, 10 or 20% of the total purchase price.

The consistent theme in all such cases is to make sure that those who have built value get non-forfeitable equity as a reward while those who need to prove themselves going forward get equity that can be forfeited.

If you have built true value, then, of $10M and you take your payment in stock that is 100% forfeitable, you set it up where you can be cheated out of all the value you have built with little or no legal recourse.

This is a HUGE red flag. I have seen founders do such deals and have begged and implored them, at the very least, to insist on 100% acceleration clauses in their employment arrangements should they be terminated without good cause. In the one case where the founders went through anyway without such protection, the company (a prominent public company) wound up terminating one of the main founders within months and all he got was a few crumbs for years worth of effort.

Check with a good M&A lawyer on this and then use your best judgment. It is ultimately your call, whatever the legal risks. But do it with open eyes and that means getting good help in assessing what those risks are.”

For the buyer stock is a lot more equivalent than to you though, they can simply sell some of their stock to their current investors and use the cash raised like that to buy you out. They also have a much better way of estimating what they think the effect of acquiring you has on their stockprice and in an ideal world the acquisition will boost their stockprice up by the exact amount it takes to acquire you.

Negotiate to remove elements you do not like or that you are uncomfortable with

In the OP’s example for instance there was no protection against the buyer firing the OP and his co-founder three days after the acquisition, and with a ‘vesting’ clause of four years this would have caused them to get nothing at all for their hard work. The worst possible moment for that would be a week before the stock vests rather than on day #2! Of course this would be ‘in bad faith’ and you might be able to sue to correct it but it is much better to resolve such issues by preventing them from being possible in the first place. In this case the solution for that (and any M&A lawyer worth their salt would include something to this effect) would be to do part of the deal in cash and an acceleration clause that states that if the buyer terminates one of the original founders before the stock vests that their stock vests immediately. That way the problem simply goes away. If the buyer would not accept a clause like that then that’s an excellent reason to suspect that they actually will fire you on day #3, and if they have no problem with such a clause that will increase the goodwill between both parties. A contract should show consideration for all parties that sign it and that will be affected by it. And a contract that you are not happy with should simply not be signed and any such offer can be safely rejected.

Make sure you and your co-founder(s) see eye to eye

Always keep your co-founders (and investors, if you have them) in the loop, do not agree to anything without full buy-in from all the co-founders and share-holders, be prepared to spend considerable amount of time on this. If there are hold-outs on a deal (say someone wants cash when everybody else is prepared to take a reasonable mix of stock and cash) attempt to at least try to resolve these issues and if this can not be resolved make it plain to the buyer that there is a minority shareholder that does not want to sell under the present set of conditions (assuming the shareholder agreement does not contain a ‘drag-along’ clause). Be aware that if you do have a drag-along clause that you can force a shareholder to sell but you will not be able to count on them post-acquisition.

The best time to make sure this sort of thing does not pop up at a crucial moment is of course to agree on this when founding the company, not when selling but people are subject to change without notice.

Agree on why you’re selling and how much you’re selling for with your co-founders to you can’t be split on this. Do not talk to other parties until you’ve ironed out any differences with your co-founders and reached an agreement, it would not hurt to get this on paper either, with an expiration date set far enough in to the future that the deal will be done or that it will be clear that there will be no deal.

If you get paid in stock beware of dilution and limited markets

If a part of the payment is in stock, and that stock is not stock in a company that is publicly traded beware that you will need to protect your position as a future shareholder of the company paying you with their paper. Typically this will involve a shareholder agreement and the bylaws of the corporation (these govern the relationships between shareholders and shareholders and the company). If the company issues a substantial amount of stock between the acquisition and your vesting you may find that you have been diluted, which could decrease the value of your stock (it shouldn’t, but it’s a definite possibility). If you want to sell your stock you may find that there are no buyers for it, or that the shareholders agreement stipulates rules which make the stock essentially non-transferable except to the acquirer.

Being paid in stock comes with its own complications and you should make sure that you cover yourself for the most common cases of trouble as part of the negotiations.

More money sooner is better for the seller

As a seller you really want to minimize the risk that comes with being paid in stock, especially stock that vests. Years fly by and stock that is worth lots of money today may be completely worthless in four years time due to a variety of causes. Alternatives to vesting stock are payments held in escrow and staggered payments (with the majority up front). That way if the buyer goes belly-up, if the market collapses or if there is a change of management or control at the buyer you get to walk away without risking your negotiated price. And this still gives the buyer protection in case you or your co-founders decide to split in case the relationship post-acquisition does not work out the way it was anticipated for whatever reason.

More money sooner is more ‘real’

The more money that gets pushed in to the back end of the deal (through earn outs and other constructs like that) the more you are simply giving the other party either an option or even worse, you might be giving away your company. A real deal has a substantial amount of money changing hands at the moment the deal is consummated. For example, if a company gets bought out, and it had profits to the tune of $500K per year and the buyer arranges for an earn-out based on performance of $1M per year and the buyer runs the company in to the ground you’d have a hard time to prove that. Your ‘earn out’ now comes down to whatever you got at the moment of closing and what has been paid ever since. That would be a ‘bad deal’, a much better deal would be to be paid a significant amount up front with some ‘icing on the cake’ for the next 4 years or so.

Verify the corporate culture of the buyer before agreeing to employment

Make sure that you understand before agreeing to a post-acquisition position what the corporate culture is at the company that is buying you. Is it only possible to get a pencil after filling out 3 forms? Or are they still running their business in a way that a starter-upper will feel at home there? What amount of freedom and independence will you have? Are you going to be heading up the department that used to be your company? Can they shuffle you around to another position?

Keep in mind that after having tasted the start-up soup getting back in the corporate harness (especially for a longer time) can be quite challenging. If you’ve gotten used to writing your own ticket make sure that you have enough leeway to be able to sit out your vesting period. If the buyer is really savvy they’ll do what they can to make you feel at home and comfortable, but history is littered with the fall-out from corporate take overs where that wasn’t the case.

What are they buying?

Make sure you figure out what exactly it is that is being bought here. Is it you? The customer base? A hip product with more potential? A thorn in the side of the sales team, to be shut down ASAP? Figure it out! Once you realize what it is that’s being bought the proposed deal structure will make much more sense and you’ll be able to steer it in the direction where you want it to go. The reverse of this is of course ‘what are you selling?’ and if the buyer isn’t buying what you are selling that might bode for trouble down the line.

What to negotiate?

Making an exhaustive list of what you should negotiate is a difficult - if not impossible - task, for every deal the list would be different. But some elements are common across all deals and here is a list of suggestions of things that you should at least have in the terms sheet:

  • amount of cash up front
  • amount of stock + vesting schedule
  • employment (yes, no, terms, salary, work location) If there is no employment then there should be no vesting.
  • acceleration conditions for the vesting of stock
  • anti-dilution measures
  • price guarantees (a minimum value for the stock for instance)
  • transfer of assets
  • explicit exclusions (for instance, of some side project that is currently part of the company being acquired that you have great future plans for)
  • Any other terms that you think are material

5. Advisors

Advisors are people that have experience in fields that you yourself do not. Typically advisors will be older than you, usually by a generation or more and they’ll have some gray hair to go with it in memory of the hard lessons they’ve learned and paid for. Advisors can be friends in business or people that you hire with a specific job in mind. Typically their roles are to bring their collective experience to bear on the task at hand and some of that experience will be yours to keep when the job is done. Some of it will be so specialist that even after being explained all the ins and outs you’ll be happy to hire them again for a similar job.

Advisors are there to advise you, not to do your job for you so be sure that you realize that you’re hiring for experience and field-specific knowledge, not legwork.

Bring your own lawyer and other advisors

While you may not have the resources the buyer has (this is typical in most take-over situations like this) you have to bring your own lawyer, and you have to be prepared to pay them top dollar for their work. Go with a reputable firm that has lots of M&A (Mergers and Acquisitions) experience, one that does this sort of thing all the time and that knows the climate. Make sure that the people that you are introduced to are the ones that will be handling your case, make sure that you are not foisted off to some paralegal once you have retained them. Take your time to educate your lawyer on all the particulars of the company as well as on anything that you think might come out later and make sure that your lawyer is never caught ‘by surprise’ because you did not inform them fully. Other advisors that you care to bring to the table should be welcome, after all this is your deal too and if there are people that you rely on for advice then you should be free to consult with them. Reject any pressure against doing this, if the other party persists walk away. It is unacceptable to require that the other party should not consult with their advisors. In fact, an honorable counterpart would encourage you to find advice where ever you can and would never see this as a negative. Keep in mind too that the party that draws up the contracts is automatically granted an advantage so if you let the other party draft the contract make sure that you and your lawyers go over it with a magnifying glass or have your lawyer draft the contracts.

If you’re not a good negotiator, get one

Just like any other skill, negotiating is something you learn. If you are not good at it make sure that you find someone who is good at it. Typically negotiating for yourself and your co-founders is hard, you have a lot (too much?) riding on the deal and it can be difficult to play it cool with so much at stake. A third party negotiating on your behalf can do that part much easier than you can. Look around and see if there is someone with the required experience in your extended network, look for someone that has successfully negotiated deals comparable to yours in the past, track record is everything with stuff like this. Maybe your lawyer or banker know the right person if you yourself can’t find one. If you can’t, or if you do not want to do it through an intermediary then do it yourself but be aware of the difficulties. Sometimes simply not being at the table gives you the perspective you need to make the call, and being at the table puts you so close to the heat of it that you lose perspective. If you’re hotheaded, easy to read, inexperienced or all of the above, you should really consider getting someone between yourself and the buyers, if you play high stakes poker every day, are cool under pressure and experienced you will likely do just fine. A good way to reward a negotiator is with a base fee for their time and a percentage of the deal + a higher percentage over what your minimum accept price is (the ‘cash’ part). That way your goals will be strongly aligned.

(Investment) Bankers

While I’m somewhat positive about bringing lawyers in on a deal like this (they’re literally on your side, and they get paid by the hour so you know what you get is what you pay for) bringing in investment bankers can complicate the situation and can cost you the deal. It may work out for the better but this is by no means guaranteed. Bankers do not work for you (even though they may charge you a success fee, or a base fee) they work for themselves. Typically they’ll set you up with some VP, then delegate the legwork to people lower in the organization. They will try to maximize their take based on the success fee, and if there is a base fee their ‘downside’ is capped, so your goals are no longer aligned. My personal experience (me, Jacques) with this sort of thing is a mixed bag and if you can do without it then I strongly suggest you do so. If the buyer is introduced to you through the investment banker treat them as working for the other side, don’t agree to fees and don’t sign any ‘exclusive representation’ agreements.

Don’t be afraid to enlist help from other businesspeople

Typically the person you need most is the person you’ll be at the end of the whole process. The next best thing is someone that has already been through all of it for a different company, hopefully one that shares one or more major characteristics with the one that you yourself run. So if you can hook up with another business person that has successfully sold at least one other company that may be your best bet at getting someone on your side that has no direct stake in the outcome and that is neutral enough to help you in the best possible way. If you don’t know anybody like that and you still have time it is not too late to look around to see if there is anybody like that somewhere near you or in the larger world of the online communities that you frequent. If someone really does go over and beyond the call of duty to help you then it would be good to agree on some form of compensation beforehand, assuming (a) that the deal goes through and (b) that they perform to your satisfaction. What goes around comes around so make sure that you agree and see eye-to-eye on all of the aspects of the deal before entering in to some kind of agreement. If the person wants to do it pro-bono then that’s fine as well, but in that case, if the deal goes through and in your honest opinion they were instrumental in putting the deal together I’d advise to compensate them generously for their efforts.

Good advisors are expensive

Typically a good adviser is worth as much as you pay them because you’ll end up with a much better deal than without. You literally pay for experience, one nasty ‘gotcha’ term in a contract that makes it through unnoticed to the signing ceremony and all your work might be for naught. That’s when that experienced lawyer is worth his weight in gold, and that’s why they get to write the big bills. So make sure that the advisors you hire actually have experience and don’t hesitate to verify that if you’re in doubt.

There is one nasty little gotcha here, and that is that most advisors will want to be paid even if there is no deal. This means that you could easily be looking at sizable bill (in the case of a deal that falls through at the last moment) which you will need to pay out of pocket instead of from the proceeds of the deal. Make sure you budget for that and realize that that bill is due whether or not the deal goes through. After all, you call the shots and your advisors have no influence (theoretically) over whether or not you will sign the contract or not. In some countries it is possible to have advisors work on the basis of a ‘success fee’, but keep in mind that that may steer them towards doing the deal even when that deal is bad for you (just to get paid). In my experience it is better to agree on a base fee per hour or per job (depending on the kind of work) and to budget for that out of the operating budget of the company. A fee-cap can be a useful tool to make sure that if things prolong beyond the expected that you’re not going to be stuck with a bill that you can not afford, but beware of the period after the fee-cap kicks in, likely you’ll find that the service level will deteriorate.

The costs made for legal, financial and technical due diligence can be substantial, normally these are born by the seller. One caveat here is that if you’ve materially misrepresented the situation before entering that phase and this comes to light during due diligence (for instance, you are selling software that isn’t yours or it turns out that your turnover isn’t what you said it was by a considerably margin) then, in spite of the fact that both parties had agreed to bear their own costs you might get stuck with a bill for the other parties costs anyway. One more reason to be nothing short of scrupulously honest.

You are in control

In spite of having all these top flight advisors, in the end you are in control and it is your call. You don’t want an overzealous banker or lawyer to scuttle your prospects of a deal. Make sure you stay in the loop, make sure you understand what is going on and that if there is direct contact between your advisors and the other party that they are speaking in your name. If you’re not comfortable with the tone or the subjects then intervene and get it sorted out before you have a real problem.

Another reason to remember that you are in control is that if you’re being billed by the hour you will want those hours to be productive hours and not endless bickering over unimportant details.

Don’t forget about taxes!

The difference between an asset sale and selling stock are huge from a tax perspective, depending on the country that you do the deal in the difference can be as high is 30% in what ends up in your pocket. Typically it is much better to sell stock than it is to sell assets, even if that is a harder deal to make (because the buyer assumes a lot of responsibility post-acquisition).

If the deal is large enough consider getting a tax adviser in on the structure of the deal to maximize the amount of money that you ‘take home’, like a good lawyer a good tax expert will earn back his fee many times over.

Ideally you already know your advisors

In an ideal situation you will have started to cultivate the connection to the people that will assist you with a deal like this long before such a deal is on the table. That way you have all the time in the world to build trust and to verify that they are the real deal. It also means that you’ll have a lot less to explain by the time a possible deal rolls around and you can hit the ground running instead of spending precious time with educating your advisors on the particulars of your situation.

6. Valuation

Valuation is the art of sticking a price on a company that all parties agree is ‘reasonable’. For a fast growing company with relatively little turnover but huge potential this is a black art. For an established company in a mature market where the cards have all been dealt it is much easier. Usually you’ll find yourself somewhere in between those two extremes. A rule of thumb is that the more data you’ve got to work with (years in existence, market information, competitive arena) the easier it gets.

Typical elements that make it in to a valuation calculation are the turnover, profit margin, growth rate of the company, growth rate of the industry, industry averages, efficiencies of scale, cost of acquisition of new customers and so on. All of those can help narrow down the range within which the value of the company lies.

Determine your value in a variety of ways

Putting a single number on the value of an entity as complicated as a running corporation can be quite a challenge, but doing it several times using different methods can give you an error check of sorts. For instance, there are different ways of looking at the financial reports of a company that will all give their own output. You could look at the profits, the turnover, the speed with which the profits are growing and so on. Each of those elements will help you to put borders around the possible values of the company. But realize that in the end the only two figures that really matter are the highest price the buyer is willing to pay and the lowest price that you are willing to accept. The sale price will be in between those two points, taking in to account all the other circumstances. The seller will try to get as close to the highest price the buyer is willing to pay and vv.

Revenues are not Profits

Related to the previous item, it is surprising how often in discussions about this sort of thing there is major confusion about valuations based on revenues (turnover) and profits. If you are going to go for a 4 year vesting period with an X amount in cash, and X equals two years of your profits you are making a bad deal. After all you have the value in your hands today, and two years of revenues is likely not a fair way to value what you’ve built so far. Simply wait for two years and sell it then :) Typically valuations that are somehow sensible will use some industry related multiplier for both revenues and profits and will then adjust these to the specifics of the case at hand, for instance the growth.

A business that is growing and has good margins but does not yet have a lot of profits today will look completely different a year from now, especially when compared to a business that is stagnant and has low margins.

It is worth what you think it is worth

If you are profitable, you have a growth curve to point to and in general you’re doing fine, it doesn’t hurt one bit to calculate the value of your business based on profits, turnover and market potential. But that does not mean that your buyer will see things the same way. They may try to low-ball the value of your company, and they may have good arguments why they think the value should be different. You can safely ignore that. This is your company. When you sign that contract all you get in return is some money for the value you’ve created and some stock for the value that you are now bound to try to help create in the future. If you are not going to be compensated in a way that you feel is fair then you should simply not do the deal. After all, when you’re profitable, for instance, getting paid 3x revenues might be interesting if the margin on your product is very low. But if the margin is very high then you could simply wait 4 to 5 years and you’d have the exact same money in your pocket and you’d still have your company. Nobody can tell you what is a good deal for you, and one of the most important things to remember is that all that counts is whether you will feel good about the deal in every aspect. If you and your partners feel the deal is fair then you can safely sign. If you have reservations now and not later is the time to do something about it, when it’s done, it’s done and you will not be able to correct any mistakes.

What is the reason the other party wants to acquire you?

Knowing this with some degree of certainty will go a long way towards helping you in the negotiations and to determine the price that you think it is worth for them to acquire you. If you are a young upstart and you’re being approached by a competitor you can bet that you are eating in to their profit margin. While you can never be 100% sure of the motivations of the buyer (beyond what they tell you) here are some possible angles: The acquisition might be to replace their aging product with yours, or it may be to take yours off the market. It may be because they think your team would be a great asset to have in house or it may be that they want to buy the product and boot you out with a non-competition clause as soon as the contract permits. Or any one of a hundred other reasons. Knowing which way the wind blows is very important and the more information you get about they reason why they want to do the deal the better you will fare. Knowledge really is power in situations like this. Make sure you know the competitive arena like your back pocket.

Shop around!

If you’ve received an offer it would be a good thing to shop around. This will have several effects. For one you’ll have a better idea how ‘hot’ the market is, if another offer is right around the corner (and how high it is) or if this is the only one you’re going to get. Another thing you will learn is that there in fact may be other parties willing to make an offer right now. In that case your single buyer process will turn in to something that resembles an auction, which will significantly improve your negotiation position. Having an experienced negotiator in such a case is important, it is very easy to handle this in such a way that you suddenly find yourself with no options at all instead of multiple possible buyers if you handle it wrong. More (real) potential buyers will drive up the value.

Why do they want to buy you?

In part this is a repeat from the bit in the ‘deal structure’ section above, but it is important to realize that your buyer might perceive your value in a completely different way that you do, possibly much higher or lower, and knowing their motivation is the key to figuring this out. If they’re scared that two years down the line you’ll have swallowed them whole, or if they are buying you for strategic reasons they’re likely to see you as worth more than if you are perceived as nice future employees with a side project.

Typically a buyer has to make the ‘buy it’ or ‘build it’ decision and if there are other factors it could really help you to know about them.

If there is strong disagreement about the valuation

If the buyer and seller can not find common ground on the subject of price earn outs can be used to bridge the gap. However, these cause a large amount of the risk of the deal to be pushed back to the seller so extreme caution is advised here. In such a case you should make sure that you are happy if none of those items pushed in to the future come true, in other words, what’s there on closing day should be sufficient to make you feel good about the deal.

There can be significant tax penalties to such constructs as well.

Most of the risk is in the first years

If you’ve managed to weather the first two or three years and you’ve brought your start-up to profitability and significant growth then most of the risk is behind you. This will typically be reflected in the valuation, after all, if 90+% of all start-ups die and you’ve maneuvered your start-up through that period of extreme risk that alone reflects on the value of the company. The flip side of that coin of course is that if you are acquired early that some of that risk is still present and the valuation will be correspondingly lower.

7. Negotiation Tactics

Ignore Pressure

Experienced negotiators will use all the tricks in the book (and whatever new tricks they can think of) to put you under pressure, especially if they believe that you are inexperienced. They’ll try to get you to agree to terms that are unfavorable to you, they’ll try to get you to accept their word as the word of the most experienced party even though this might be against common practice. You are not in a hurry, you do not need to sign anything today. Do not allow yourself to be rushed, ever. Never ever sign anything before thinking it over and talking it over with your advisors. Any document you are given should never be signed that day without a review. Only agree to signing a document that has been thoroughly reviewed and that you are 100% in agreement with, any regrets after you put that signature are with you to stay. There is no such thing as a bad deal that was not done but there are plenty of examples of bad deals that were done. Better no deal than a bad one! If you have been ‘drafting’ an agreement make sure that the one that you are about to sign is actually exactly the same as the final draft if you were not the one to print it! (if you think that sounds overly paranoid, this exact scenario where a draft was amended after the last review round and the person signing it (not me, fortunately!) did not notice until it was too late and the change was small but with significant effects). M&A is hardball, be prepared to slow down the proceedings to the point where you can follow them and simply refuse to be pushed to go faster than you are comfortable with. If a deal is good, it will still be good 48 hours from now, and if it is not good 48 hours from now you are probably (but not always!) better off without it. So, take your time (that’s probably redundant by now, but just in case), read absolutely everything until you completely understand the implications of what you’re signing. One common beginners mistake in stuff like this is to gloss over terms that you don’t understand only to come back much later to them (well after signing) to realize the full implications of what you’ve agreed to. Signatures are binding, ignorance of the terms is no excuse.

Don’t expect the other party to do you any favors

That’s not because they’re mean or can’t be trusted, they simply expect you to fend for yourself. You are currently on opposite sides of the table and each party should (and will) do the very best they can to get a deal that favorable to them. So, if they lowball you, that’s not because they don’t like you, it simply means that they are trying to get the best deal. If they tell you they won’t negotiate they’ve already started (that’s just their way of trying to express their insecurity ;)). And so on. You don’t have to do the other party any favors either.

Don’t make any assumptions about the period after the closing unless there are ironclad guarantees. If you’re getting paid in stock keep in mind that the company might go bust and that stock will be worthless.

A First Offer is Never a final offer

Even if a company explicitly says that their first offer is the only offer that you’re going to get, and even if they mean it, in practice a first offer is never final. Saying that it is is just another way to put pressure on you: ‘take this or nothing’. An inexperienced negotiator might fall for that and think: ‘This is a shitty deal but I won’t bet getting a better one, so I’ll take it’. If an offer is not to your liking make a counter offer or walk.

If you want to get the absolute maximum out of the deal you might end up with nothing!

It’s fairly easy to just keep on pushing for more, no matter what. Do realize though that there is a significant risk that if you keep on pushing for more that the other party will at some point simply break off negotiations. Set a goal before you start to negotiate, be prepared to walk if you can’t reach it but don’t try to push for more in several rounds once you reach your goal. The goal should be based not only on what you think it is worth but on what you perceive the company to be worth in the market. If you achieve something >> your value and ~your estimated market value (assuming that one is the higher one) then you should probably do the deal, not push for more. A large part of negotiations is psychology and if you set a lower boundary (with your response to an offer) and the other party accepts then increasing your demands is simply bad form. In that case you should have built in more negotiation room.

Don’t bluff

Don’t threaten to end the negotiations or say ‘final offer’ unless you mean it. If your final offer isn’t final the other party will realize that you are bluffing and you have just strengthened their hand. If you use strong words be sure to be willing to back them up with deeds. If you’re a very experienced negotiator you may use bluff as a strategy but if you are then you probably don’t need this guide to begin with. If you’re not an experienced negotiator sticking to the facts and keeping things as simple and to the point as possible are an excellent way of staying in control of the proceedings.

Be honest and firm

There is absolutely nothing wrong with being totally honest and blunt, speak your mind and don’t yield on things that you consider to be important. If you feel the offer is low, say so and counter with an offer that you think is high enough with a bit on top. If you think that a deal as proposed has an item in it that is unacceptable to you, say so. Communication - and the way you communicate - are everything and that starts with making perfectly clear to the other party that you are not going to accept a deal that is not good for you in any way.

In the case of the OP the deal as proposed had several main sticking points, the first that the deal was too low, the second that the deal was an all stock deal, the third that they did not like the four year vesting period in spite of having already built considerable value. They are profitable, they have all the time in the world to negotiate this to their advantage so use that time and use it well, negotiate a deal that you feel is not the bare minimum but that will make you very happy when you sign it. Choose your words carefully, small differences matter a lot.

Peter van Dijck wrote:

Instead of “a little low”, say “low”. Instead of “a little long”, say “long”. Don’t qualify. That way it’s even stronger.

“We feel the offer is too low and that the vesting schedule is too long.”

And that’s very good advice, you take a statement, and make it both shorter and more powerful.

One beginners mistake that rookie negotiators often make is to go in to specifics of why they feel things are a certain way. Doing that gives the other side of the table an excellent reason to use the current position as a ‘ratchet point’. They can basically freeze the value and other parameters of the deal and try to shoot holes in your position in order to reduce the value or strip out features. Being specific is great, but reserve it for those things that you are not going to yield on and that are 100% rock solid. It’s very easy to fall in to this trap and all it takes is to say ‘why’ you believe you are worth ‘x’ and ‘why’ you believe you need feature ‘y’ in the contract. Why you want stuff in there is your business, you don’t gain anything by motivating all your choices and you stand to lose a lot. Be specific if you have to, not to give the other side a lever to be used against you.

The other deal was such a stupid lowball, we couldn’t even take it seriously. We simply replied, “this is not a good deal. Make us another offer.” We felt it would be ridiculous for us to counter offer such a stupid deal that rejecting it out of hand and making them negotiate against themselves was a better option. Needless to say, they didn’t make a better deal. Good riddance.

Anchoring

Anchoring is a psychological effect, any number - even if it has no bearing on the situation at all - can be used to get someone to reason differently about an unknown quantity. For instance, by offering you $50 for your car, you might think that if we settle for $500 your got a deal that is 10 times as good as the initial offer. But in reality the $50 had no relation to the true value of your car so it should not have been part of the equation to begin with and it definitely should not give you a good feeling about the - still bad - price that we eventually settled on.

Lowballing an initial offer by a substantial amount is the M&A equivalent of this trick and you have to be aware of it and on guard against it. Don’t let the initial offer set the range you wish to negotiate in, set your own range and stick to it. The only valid reason that there is to go out of your initial range is new information that you were not aware of at the time that you set your range.

So, there need be absolutely no relation between an initial offer and the offer that is reached through negotiation.

To shop, or not to shop

The subject of ‘shopping around’ to drive up the price (and to get a better feel for the price) has been mentioned already, it is probably good to say that shopping around can indeed have a positive effect on the price, but your ability to shop around is what really matters. So even if you don’t actually do it, the fact that you could is almost as powerful and not nearly as likely to have a detrimental effect on the negotiations once they are underway.

And shopping around is easier said than done, you can’t seriously approach multiple parties for a comparable offer, after all if you say ‘you are the best possible partner’ that is only sincere if you say it to one party only.

If you do get another offer, feel free to work that in to your negotiations, that should only help you if you play it tactically.

Don’t allow yourself to be manipulated

Keep your distance, this is strictly business, you are on opposite sides of the table, there are no friendly gatherings in situations like this until the deal is inked or negotiations have been terminated. Don’t let your vision be colored by the people or the surroundings all that matters are the terms&conditions and the numbers.

If you want to place hard limits on what is negotiable, do so!

For instance, if the offices of the buyer are far away from your present location and you do not wish to relocate make that a part of the package. Don’t ‘hope’ that when the deal is done things will stay the way they are, hope will buy you exactly nothing. And be prepared to negotiate a drastically different deal because of the limitations you place on what is negotiable, after all if you say you don’t want to move, they do want the offices to be moved and you both want to do a deal then they’ll have to do without you. Other examples of hard limits are ‘hardball’ with respect to price ($10M, in cash, otherwise no deal) or deal structure (maximum one year employment, otherwise no deal).

Don’t feel bad about that, if there are things that you think are ‘must haves’ in the terms then simply put them on the table and if you don’t get them this deal is not for you.

The ‘standard offer’

There is no such thing. Really, no company ever bought another on a standard contract, each and every merger or acquisition is unique enough that there will be some negotiation. If the other party does not want to negotiate at all (as in, it was not just a way to see if you would fold or not) then I would advise you to let it slide unless you are really desperate to sell and fully expect to be taken to the cleaners.

“We don’t negotiate” in my book translates in to “we don’t do deals unless we’re dealing with suckers”. And I hope you don’t self-identify as a sucker.

The other side

Trying to get in to the head of the buyer is an excellent way to get closer to the true value you could extract from this deal. After all, if their ‘maximum’ is higher than your ‘minimum’ there is overlap, and the better solutions will be found near their maximum. If there is no overlap there will be no deal anyway. So it is much less important what you want to have as a minimum value than it is to find out what it is that they would like to pay for your company if you negotiated as good as possible. See ‘what are they buying’ in other sections.

8. Words of Warning, in case you weren't paranoid yet

A merger or a buy-out is usually the culmination of many years of hard work, and it would be a pity to see all that labor go to waste at the last moment. While it is definitely (fortunately) rare that companies try to ‘pull a fast one’ it definitely does happen and you need to be aware of this and on guard. Typically the lower on the totem pole buyer and seller are the bigger the chances of this happening. Usually advisors will spot tricks a mile away, but in the end the responsibility is yours and if you get bitten the lesson could be a very expensive one. All it takes is one nasty clause in a contract or a belated realization of what it was that you just signed to spoil what should otherwise be one of the happiest occasions of your time as a businessperson. In this section a few tips to safeguard yourself from some common pitfalls.

The Trust Factor

In the business world there exists a whole array of tools to make sure that rabbits can conduct business with bears and wolves without perpetual fear of being eaten. Of course, it’s up to the rabbits to make sure that they use their tools properly otherwise they will still end up being called ‘lunch’. Doing business with people that you do not trust is not only possible, it is daily fare. It is safe to say that even though you may trust the other party it does not hurt at all to be looking out for #1 on the basic assumption that they are doing so as well. Anybody that ignores that rule will sooner or later pay for it, and the tuition fees are high and non-refundable. The basic tools in the toolchest of a snappy rabbit are: Lawyers, Contracts, standardized protection clauses, best practices, banks and courts. To avoid visiting the latter you should do your best to use the former as good as you can. A contract is something that you make up to avoid having to go to court, a sloppy contract or a contract that contains things that are to your disadvantage can really hurt. Society has been built on the fictional construct that a signature under a document binds all parties to the terms of that contract. Some of your rights are inalienable (and you can’t sign them away, even if you want to), some of your rights you have simply by being alive, but on the whole contracts allow for great flexibility in changing your rights position and you should only sign those contracts that you fully understand and that represent your desire for your rights and obligations in a fair way. So you don’t need to ‘trust’ the other party beyond the fact that they too will be bound by the contract, which - one can hope - is an unambiguous representation of the situation. Where there is ambiguity there is trouble. Trust your gut feeling. If you don’t feel comfortable with a party then it’s perfectly ok to just back out.

Someone here derided the idea of declining to do business with people you don’t trust: “…modern financial and legal infra-structure is designed so that we can make business with people we don’t trust.”

Since the beginning of mankind the world has been full of people who will take advantage of others who are not as smart or experienced or powerful as they are.

It’s not always easy to discern these kinds of people. Some are very smooth and skilled manipulators. You describe yourselves as “young founders”. I suggest you seek out someone “old” (over 50) who you know well and whose judgement you trust, and ask them for counsel. I’m not necessarily referring to business or legal counsel, I’m talking about someone who’s been around the mountain enough times that they can discern when someone is trying to blow smoke up your dress. It should be someone who has your best interest at heart. Maybe your own father or grandfather might be a good choice.

I am not being condescending about you being young and inexperienced. Nobody is born knowing everything. I’m old now, but I was young once, and I remember how it was. Get someone with the long fangs of many years who is on your side. Bring him to meetings with this company’s people, introduce him simply as one of your “advisors”. He doesn’t need to say anything in the meetings, he may just observe and listen, and perhaps ask a few questions which unmask any propaganda.

I’ve been doing consulting for 30 years. When contemplating a job, if I don’t have enough trust in the client’s integrity (and he in me) that I feel we could do the deal on nothing more than a handshake, I’ll walk away. For most jobs I do have a paper contract, because having things written down is good, but I don’t expect any contract to turn a snake into a good guy.

If someone is intent on cheating you, all the contracts in the world aren’t going to make much difference.

Over the years I’ve ignored my snake radar a few times, and in each case I regretted it.

Any contract must be equitable. What you’ve described so far sounds rather inequitable. Consider what that might indicate about the integrity and good faith of your potential purchasers.

The first time it was a similar low-ball offer with 50% paid up front and remainder over 4 years as an earn-out. The total deal was for roughly 4x revenues, and was all cash. We actually didn’t think it was such a great deal at the time, but we ended up going all the way to closing. Lo and behold, they actually tried to change one of the material terms of the deal AT CLOSING. These folks were not to be trusted at all. We immediately said “GOOD BYE!” and hung up the phone (we were in Switzerland at the time working for a client and actually tried to do the closing virtually). I don’t think they expected that we would just walk away if the deal went sour, but they had nickled-and-dimed us so much along the way that the trust was already frayed. By the time we were done, there was no trust left. Without trust, you can’t do any deal.

Assume the worst case scenario is the one that will play out

Whatever deal you agree to, always assume that the worst case scenario possible under that deal from your perspective is the one that will play out and make sure that you are 100% ok with it if it does. If that sounds pessimistic look at it this way: If that’s the case things can only get better. If you assume a higher level of performance and it does not come true you might end up regretting the deal after all.

Trust should increase

During the negotiation process if you have a feeling the amount of trust is decreasing - in my experience at at least - that is a good sign that the deal will fall through. If things are good then trust will increase as the process proceeds, parties will have made one or more small mistakes and how that was handled speaks volumes about the future. If the negotiations are extremely tough and full of distrust then you can count on the situation afterward to be not much better (though, I’m sure there are exceptions). The marriage analogy has already been made a lot of times in this context, if you don’t have a feeling while getting closet to the ‘date’ that this is the happiest moment of your career you are probably doing the wrong thing.

Loose lips sink ships

When you are in negotiations (especially with multiple parties, but for a single party the rules are much the same) be quiet about it to the outside world. Nobody needs to know that is not directly involved. Make sure that all your partners and advisors realize this. Talking about an investment or a deal that is about to be done to outsiders is highly unprofessional. You are possibly even killing the whole deal on the spot. So simply don’t. And agree on any communications post acquisition, as a general rule I would advise anybody that has sold their company to keep the amount confidential, and to agree on any press releases jointly before sending them out if and when the deal is done. And if negotiations break off for whatever reason be quiet about that too. You are hurting your chances of future conversations if you start blabbing (or bragging, or complaining) about it to outsiders, especially members of the press. No blogging, no getting back, nothing. You have nothing to gain from it and a lot to lose.

Make sure the other party is genuinely interested

That’s another one of those lines that seems pretty obvious, but it absolutely does happen that under the guise of a take-over bid all kinds of confidential information is transfered to a competitor or an investor in a competitor. Be careful, make sure that you understand who it is that you’re dealing with, reveal as much as you need but not too much and keep in mind that you can not actually know the agenda of the other party. Once you get to the stage of NDA’s you can open up about data, but if there is something that you consider to be your competitive edge keep it to yourself if you can. Especially getting to the due diligence stage without proper NDA’s in place is a very dangerous thing, you are basically laying bare your company from one end to the other without recourse if things go wrong.

And with that we - finally - come to the end of this terribly long piece. If you feel like giving me feedback my email is jacques@mattheij.com

Further reading on this subject:

http://www.accountingtools.com/article-merge-valuation-method

http://www.askshane.org/daily-tips/how-to-sell-a-website.php

http://www.askshane.org/features/lessons-from-an-acquisition.php

http://www.avc.com/a_vc/2011/01/ma-case-studies-whatcounts-sale-process.html

http://www.diplom.org/Zine/F1997R/Windsor/lawdip.html

http://www.gutenberg.org/files/17405/17405-h/17405-h.htm (Sun Tzu, the Art of War)

http://en.wikipedia.org/wiki/Best_alternative_to_a_negotiated_agreement

http://www.investopedia.com/terms/a/anchoring.asp

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