The Forces Behind a Hungry M&A Market

Tweet about this on TwitterShare on LinkedInShare on FacebookShare on RedditEmail this to someone

The M&A and IPO markets for VC-backed companies is hot right now, and there is much attention on the huge wins like Whatsapp, King, Grubhub, and many others.

But there is also a lot of activity at the lower end of the market (exits in $12M – $30M range), and I think there are several prime forces behind these exits that we’ve experienced with some of our seed-stage deals that were sold quickly:

  • Technology companies need less capital than they did five or even two years ago. This has many HUGE implications. One is that less capital means that at lower acquisition prices, every shareholder can get a good return (investors, founders and employees).
  • Lower sales prices = more buyers. With a larger universe of buyers, a sale is more likely as is an improved multiple.
  • Small company discoverability improved. It’s a lot easier for acquirers to find interesting companies without the need of expensive intermediaries or knowing the right people. Social media, Angellist, Crunchbase, and proliferation of media outlets are recent avenues to be discovered that didn’t exist five years ago.
  • Run up in the stock markets give public acquirers a currency and not-yet-public acquirers a believable sales pitch to the target about achieving liquidity.
  • Good software development talent is hard/expensive to hire, so there is a market to acquire it.

While every VC and founder wants an outlier outcome, it comes as no surprise that it doesn’t happen for every company. Having good alternatives in scenarios where a company has not achieved exponential growth can produce really meaningful outcomes for everyone. The reality about VC is that while you swing for the fences, it’s very hard to hit a home run. Getting doubles and triples instead of zeros in other at bats can make a difference. When you are an entrepreneur, an outcome like this means millions in your bank account. Maybe not never-have-to-work-again type of money, but life-changing amounts. Keep this in mind as you are composing your financing plan for your company.

Photo credit: Steve Shinn

Tweet about this on TwitterShare on LinkedInShare on FacebookShare on RedditEmail this to someone
  • Andrew Pitz

    Thank you for this analysis… very interesting and informative! However, I’m not sure I completely agree with your first bullet point. And the reason is your fifth bullet point. While start-ups need less capital in many ways (legal fees, technology infrastructure, tons of available free or really cheap resources, etc.), the hiring costs for talented people that can make your start-up successful are also really increasing, as you note. One CEO told me that a mid-level engineer at his company is 160k per year. That’s A LOT of money!! For start-ups to compete with that, they need a lot of capital to pay for good people. Of course, the cost of that capital in terms of equity might not be that high if these talented people/engineers provide additional value to make the multiple or acquisition price jump (again, point 5). It would be interesting to check the dynamic between the cost of hiring the top people/capital needs and the quantitative effect those people have (obviously we all know great people will have a huge, positive effect). Thoughts?

    • jheltzer

      Andrew, you make a lot of good points. The observations I make are about companies getting sold earlier in their lifetime. At that point, there is not typically a large development team, but a talented small one lead by a founder or founders. Early in the life of a company, the ability to build and pay only for compute infrastructure a company consumes is often a bigger factor. It wasn’t that long ago that to build a website that could scale would require a huge amount of capex ($1M+) fairly early in a company’s gestation. So when looking at this limited frame of time, even with higher developer costs, the ability to “pay as you go” for infrastructure becomes a bigger factor when you have a small team. As you point out, good developers create a lot of value, and even if they create a cash drag on the company, it’s usually a good return on investment and can lead to one of these early exits. Some people argue (Jason Calacanis in particular) that good developers are underpaid by 2-3x. That’s a topic for another time…thanks for your comment.

Copyright © 2014 Jason Heltzer