I recently caught up with an old friend who, along with his cofounding partners, had just sold his technology business to a public company for $25 million with the potential for an additional $30 million in earn-out over the next three years based upon agreed milestones. After he peeled himself off the ceiling, I asked my friend —let's call him Tim— about the most surprising part of the process of selling his business. His response? The sheer 'brinksmanship' involved.
I thought brinkmanship was an interesting word, so I asked my chum to elaborate.
John: You used the word brinksmanship in describing the selling of your company. Can you give me an example of what you mean?
Tim: After we spent a month negotiating and signing an initial letter of intent (LOI), the buyer came back and started to renegotiate the purchase terms asking for less up front and more on the back end.
The acquiring company had a board member who wanted to flex his muscles to show the team he could add value. This one board member had not been involved at all in the negotiation and wanted to come in late in the game and show the team he could play hardball.
We had made it very clear during the LOI process that any variation from the basic LOI terms in the final agreement was going to be a deal killer, so when they asked for a reduction in the up-front amount, thinking we would be forced into negotiation, we called their bluff and basically repeated that if the terms varied at all from the LOI, the deal was off—period. This forced them to go back to the board, and within 24 hours, we were back on track with the LOI terms and up-front payment
John: What gave you the courage to call the buyer's bluff?
Tim: We had built a strong personal relationship with the head of business development of the buyer, which proved to be beneficial. We were able to learn back-channel information that we really should not have known about and that gave us a picture of how badly they wanted to buy us. Our inside contact wanted to get the deal done, so he was doing a bit of coaching and letting details into the conversation that worked to our advantage.
John: Even with coaching from your friend on the inside, wasn't it risky to strike such a combative posture so early in the negotiation?
Tim: Maybe, but we are also very confident in our numbers and feel like we have a good BATNA (best alternative to a negotiated agreement) since we could sell a small amount of stock at a lower valuation today to fund our immediate needs and remain independent, then focus on delivering over the next three years, and in the end, we'd all make more money when we sell down the road. When you have a good alternative to fall back on, you have a little more courage at the negotiating table.
John: What other issues came up that threatened the deal?
Tim: The deal came to the brink again when we started to wrestle over the definition of the earn-out and corresponding milestones. It was very difficult to nail down an agreed-upon definition of what a milestone is. For example, one of the terms of the earn-out was to launch with a specific market and channel within the three-year period. The definition of launch is very subjective since it could mean a simple trial on the low end or specific market-wide distribution agreements with financial milestones on the high end. Of course, we wanted the term for launch to be less rigorous, and the buyer wanted the definition specifically boxed with a high bar. Working through the details of these definitions to an agreement while thinking about all of the potential curves the market could throw at us over the three-year period was a challenge.
Talking to Tim reminded me of the advice I received years ago from Ted Matthews, an entrepreneur and author of Brand: It Ain't the Logo* *It's What People Think of You. Ted encouraged me to leave all of my exit options open: make your business fun enough to run that you could see yourself being carried out boots first, so well run that senior managers could take over if you get hit by a bus, and valuable enough that other companies would pay a premium to buy it.
John Warrillow is a writer, speaker and angel investor in a number of start-up companies. He writes a blog about building a sellable company at http://www.BuiltToSell.com/blog. You can also follow him on Twitter at @JohnWarrillow.