Selling My First Company
I’m pretty excited to announce that I recently sold cisimple to ElectricCloud. In fact, at this very moment, they are in the process of getting everything back up and running, and with lots of improvements I might add. cisimple is also being rebranded to ship.io and is entering public beta as of today. My involvement going forward will be transitioning to an advisory role with the company once everything is off the ground.
This was my first company and I’ve got to say, navigating the acquisition process was a bit like stumbling around in a dark room. Fortunately, I didn’t fall face first on any proverbial coffee tables but I definitely stubbed my metaphorical toe a few times. I also noticed that there are really very few blog posts out there that discuss the mechanics of the acquisition process. And, while mileage is likely to vary substantially for different companies/founders, I figured I would share a few things that I’ve learned over the last few months.
First, there are two common types of “acquisitions”: Stock Purchase Acquisitions and Asset Purchases. The first occurs when the buyer purchases all of the selling company’s stock. This is a complete acquisition of the selling company and is usually the simplest, mechanically speaking. An Asset Purchase on the other hand is when the buyer purchases all of the selling company’s assets. This is still often times referred to as an acquisition because in most cases all of the assets required to run the business are purchased (i.e. product, office furniture, etc.) effectively transferring ownership of the company.
As a founder, it’s helpful to understand the differences between these two. Stock Purchase Acquisitions, for example, are typically much more friendly to the Seller. Aside from being mechanically simpler, standing contracts and agreements (partnerships, office space leases, etc.) that the Seller has in place will not be affected. Note, that “change of control” clauses will definitely apply here so any agreements you have in place might be impacted in that sense. A Stock Purchase also results in a more favorable tax situation for the shareholders. In fact, if you’ve owned your equity for more than a year… Congratulations! You’re probably going to get a long-term capital gains rate.
By the way, this is a good time to mention that I am in no way a tax/legal professional. Not even close… Seriously.
Asset Purchase acquisitions however, are often times preferred by Buyers because they come with less “baggage”. Since only the assets are being purchased, any agreement you previously had in place with Partner X may have to be renegotiated with the Buying company. Also, any employees working at Seller Co. will have to be hired by Buyer Co., which is not a terribly comfortable place for people to be in. Finally, with an Asset Purchase the sale is treated as regular income for the company, which means you’ll be spending a lot more in taxes.
The reality is that which type of acquisition a Buyer and Seller agree to is going to be driven by many factors. If the Buyer wants the team, the product and is comfortable with any of the legal risks introduced by the Seller then it’s unlikely they would object to a Stock Purchase. In fact, they’re likely to prefer it since it’s simpler. In any case though, I think it’s worth being educated about the implications of either approach. In the least it’s something that can help protect you when you’re negotiating the size and mechanics of the deal.
As part of any acquisition, there’s going to be a diligence phase, during which the Buyer vets the Seller. This period can take quite a bit of time and a lot of work from both sides. It also has the potential to be very expensive since lawyers will almost certainly be involved. I strongly recommend negotiating up front for the Buyer to cover all legal expenses. It’s likely that they’ll try to cap it but try to avoid it if you can since it’s tough to predict how much lawyer time you’ll need. Besides, they’re the larger company anyway, and if they’re looking to make this acquisition they can afford it.
There are several types of diligence that we covered during the cisimple sale:
1. Intellectual Property
2. Business Metrics
The first step was to verify that I, or rather the company, actually had a legal right to sell the Intellectual Property. This is one of those times when you’ll be glad you’re great at keeping your records organized. Fortunately, while my desk is a bit of a mess, I was pretty religious about keeping every document involved with the running of the company around: Employment Agreements, Contractor Agreements, Advisor Agreements, Investor Notes, etc.
It’s also highly likely that if your product is a software application, it will be subjected to an Open Source software scan. While these are well intentioned, they can be a nightmare of tracking down licenses for every font/Ruby gem you use in your product and even documenting every 3rd party product you mention on your blog. I’ll just say that it’s a good idea to keep this stuff documented but in no way is it sane to reach the level of documentation required to completely pass one of these scans.
The next step of the diligence process involved analyzing metrics around the running of the business. A couple of key pieces of information were MRR (Monthly Recurring Revenue/Customer), burn rate, and the customer funnel. These are obviously, all things any SaaS founder should be keeping an eye on however, it’s also incredibly helpful to have the backing data easily accessible as well. In the very least, I strongly recommend being able to rattle off these numbers from memory as I found them to be an important part of the negotiation process.
Have a good lawyer
Finally, I can’t stress how important it is to have a lawyer that has your back. Unless you passed the Bar yourself, you’re bound to run up against something you don’t know. Fortunately, Gary Marshall from WSGR was awesome and I don’t know how I would have pulled it off without him. When it comes to the finer points of negotiating a Purchase Agreement, you definitely want to have someone on your side that has seen a lot of them. After all, your Buyer definitely will.
So what am I up to now? Well, I’m helping ElectricCloud get ship.io off the ground for starters. I’m also involved with a handful of really exciting consulting projects, most of which are in the IoT space involving hardware and BLE. I always love hearing about new projects/startup ideas so if you want to grab a coffee some time give me a shout: email@example.com