M&A Tips For Seed-Funded Startups
It's signaling all the way down
In a tough market for venture funding, it’s natural that many startups are mulling over the possibility of selling to another, larger company - the fabled strategic buyer. In particular, there is a glut of seed-funded startups that will struggle to raise a Series A. For these startups, an exit via M&A can seem a very attractive path.
But: is M&A a realistic option?
That depends - it’s heavily context-dependent.
Let’s do some Q&A to explore some of the key considerations & tactical moves. Let’s assume that your startup has seed funding, has some customers & revenue, but has not yet achieved product-market-fit.
Have any potential buyers reached out to you?
If the answer is no, this is a big negative signal. It’s possible that a potential buyer will knock on your door tomorrow, but the best predictive signal for buyer interest is inbound demand.
No buyers have reached out to me. What should I do?
One thing to keep in mind: selling to a customer is VERY different than selling to a potential buyer.
Why?
Signaling.
An early stage startup selling to a customer should highlight its motivation to close a deal. You want a customer to know you will go “all-in” to make them happy.
In contrast, an early stage startup selling to a buyer should minimize its motivation to close a deal. A potential buyer often reads “motivation” as “desperation.” This is not good for a seller. At best, the buyer will use a seller’s desperation to negotiate a lower price. At worst, they’ll assume a seller is damaged goods and move on to another target.
If no buyers have reached out, it’s difficult to generate interest without creating a negative signal. Unfortunately, this might be your only option.
My startup has had inbound buyer interest and I’m interested in moving forward. What should I do?
Be very careful about signaling!
Engaging with a buyer requires a delicate balance of showing interest but not-too-much-interest. That’s why it’s quite common to lean on advisors for help.
You might want to reach out to a few (or more) other potential buyers. Ideally, you’ll have advisors or investors do this (for signaling reasons). In general, maximizing competition will maximize value - but there is nuance to getting the ideal amount of competition at this stage. Reaching out and engaging with too many buyers could create unnecessary distraction and reaching out with a poorly calibrated message could be damaging.
Sometimes potential buyers will push you to not engage with other buyers. They might even threaten to walk. If this is true and they actually would walk, they are likely buyers looking for a bargain - so making them walk might not be a bad thing.
My startup has no inbound buyer interest, but I want to sell. What should I do?
Unfortunately, this means your startup has major challenges. If you haven’t done this already, the first thing to do is to consider significantly cutting costs to extend your runway.
It’s important to understand that M&A takes time. While some deals move faster that others, you should be prepared to spend at least 3-6 months on the process of selling. If you only have a few months runway, you are in serious danger of running out of money before a deal can even happen.
If you ask for advice on what to do next, you’ll likely get a lot of different answers. There is no easy path. My advice is to survey the broad landscape of buyers and hone in on a target group where you think there is the best possible fit. This is a bit like honing in on initial target customers and coming up with an ideal customer profile. Hopefully, you can work with investors & advisors to cull the list and find well-targeted candidates where you have potential “in’s.”
You’ll need to reach out to try to generate interest. I would caution against bluffing about your strategic position - if you try to hide the fact that you have a “weak hand,” it’s likely to kill your credibility - a common deal-killer.
Ideally, you’ll be able to get a few interested parties. This could give you some leverage to get the interested parties moving forward. At this point, advice gets extremely context-dependent - so I hope you have some trusted advisors who can help you think about next steps from here. Good luck!
Let’s say you have interest from multiple buyers. What to do?
First, make sure you understand the incentives & motivations of each buyer.
In your conversations with an interested buyer, don’t be afraid to ask lots of questions. In fact, the act of asking probing questions about a buyer creates a good signal - you are not likely a desperate seller if you are asking honest, thoughtful questions that interrogate the strategic fit between your company and theirs.
Hopefully, you can ask enough questions to be sure to understand why a buyer wants to buy you and who are the key decision-makers.
Another important question - are they talking to other, similar acquisition targets? You should assume that they are, at least during the initial stage of your dialogue. You should also not be afraid of asking. It might be an uncomfortable topic to bring up, but over the course of an acquisition there will inevitably be uncomfortable conversations. A good way to defuse a difficult question is to be explicit about it ie: “this might be an uncomfortable question to ask, but I think we need to be able to ask uncomfortable questions in order to build a trusting relationship that will help us through the M&A process.”
Keep in mind, different buyers might have very different motivations. If you have 500k in revenue and you are talking to a startup with 5m in revenue, they might value that revenue. If you are talking to a buyer with 100m in revenue, they might place zero value on your revenue.
Of course, another stakeholder with important incentives is your investor group. Ironically, significant buyer interest has a funny way of loosening the purse strings for a bridge.
Can a buyer actually buy you?
Hopefully, this will come out when you are asking probing questions. For example, do they have enough cash to make an attractive offer?
Some buyers will be assuming they will use their stock to buy you. This might not be a bad thing - taking stock from a startup on the rise could work out well for you.
Any final pieces of advice?
It’s very, very challenging to balance spending time with buyers while also running a startup. Even when the time demands aren’t high, it can also create a major psychological disruption. If you have aggressive growth targets, you should probably dial them down - remember, a buyer will be watching intently to see if you hit whatever goals you’ve shared with them. If you miss your goals, expect them to bring it up and, potentially, lower the price.
Side note: for both sellers (and buyers), I think the number one blunder in M&A is simply not doing what you say you are going to do. Do yourself a big favor and don’t make this mistake.
I realize that the Q&A above could give founders a lot of reason to worry. This is intentional - the famous motto “only the paranoid survive” is never as applicable as in M&A.
That said, I can say that - at least, in my experience - the vast majority of venture-backed startup founders who have gone through M&A end up pleased with their decision to do so. I suspect that’s largely because closing the door on a troubled startup opens up new doors that had been previously been very hard to see.