In this episode, Rob sits down with John Warrillow, author of multiple bestselling books and someone who has years of experience in building and selling companies. They discuss when to sell, how to create leverage, the importance of hiring an expert, and more.
The topics we cover
[7:30] The right time to sell a company
[15:06] Gaining leverage when negotiating
[20:59] Sell-side processes for founders
[29:14] The 5/20 rule
[31:41] Things to look out for from potential acquirers
Links from the show
- The Art of Selling Your Business
- Built to Sell: Creating a Business That Can Thrive Without You
- Built to Sell Radio
- The Automatic Customer: Creating a Subscription Business in Any Industry
- Finish Big: How Great Entrepreneurs Exit Their Companies on Top
- Before The Exit: Thought Experiments For Entrepreneurs
If you enjoyed this episode, let us know by clicking the link and sharing what you learned.
If you have questions about starting or scaling a software business that you’d like for us to cover, please submit your question for an upcoming episode. We’d love to hear from you!
I was honored to get him on the podcast today. He is a big name in the M&A space, and his book was just released last week. It’s called The Art of Selling Your Business. We effectively just talked through a few pieces of advice John has, and I asked him questions about all types of stuff. He has such a myriad of experiences. It’s a really good conversation even if you’re not selling today. The thing I like too is he’s not selling services. He’s not saying you should sell your business or here’s how to do it and now pay me to broker you. He’s not a broker. I just really appreciate that aspect of what John does.
Before we dive into that, we have a new podcast review from Tax Podcast Fan in the US, and they say five stars, “The OG SaaS podcast. I’ve been listening to this podcast off and on for at least five years. So much actionable wisdom.” Thank you so much. We have 875 worldwide ratings, not all have reviews but I would love to get to 1000 ratings. If you haven’t clicked five stars on the Apple Podcast or whatever podcast you use, I would really appreciate it.
If you haven’t heard, TinySeed batch three applications are open. They’re open for about another week from today from when this episode goes live. If you run a SaaS company, bootstrap SasS, that’s at least doing $500 a month in MRR and up, you should apply. If you’re interested in getting mentorship, advice, and being in a batch experience where you’re in the trenches with other founders, as well as the funding we offer and unfettered access to myself, Einar Vollset, and other knowledgeable SaaS folks, I would encourage you to apply. Head to tinyseed.com/apply.
Also, if you feel like maybe you’re not ready yet, we are going to be running another application process later this year. We raised TinySeed’s second fund, and it allows us to start funding more companies because that’s been the issue to date. We get more quality applications for good businesses that we’ve been able to fund based on the first round of funding we raised. Tinyseed.com if you’re interested. With that, let’s talk about The Art of Selling Your Business.
John Warrillow, thank you so much for joining me on the show.
John: Good to be here.
Rob: It is a pleasure to have you, sir. I think I mentioned this to you. I came on your show Built to Sell Radio a few months back. I think I mentioned it on there that your first book about selling companies called Built to Sell: Creating a Business That Can Thrive Without You was something that I read multiple times as I was going through the exit process with Drip.
Then I stumbled upon Built to Sell Radio and I thought is this going to be the typical kind of fluff around selling a company where they don’t dig into real stories? I was blown away by how much information that you’re able to convey and how helpful your examples are on Built to Sell Radio because they’re real companies. You interviewed, in my memory, services company and there are some tech companies, but there’s an awful lot of physical products.
It just feels like it’s not these Silicon Valley—I sold Instagram for a billion dollars in a week—stories. What I see is the more true look at what it’s like to sell a company. Do you hear that a lot?
John: No, but it means a ton for me to hear that from you. You’re absolutely right. We try to interview the real entrepreneur. Our sweet spot is a deal that’s $1 million to $20 million of value, they’re life-changing events for the entrepreneurs who experience them, and they will never show up in the headline. That’s the sweet spot for us.
We try to unpack those. We try to understand the pitfalls to avoid, the mistakes to avoid, and some of those successes. You are an incredible example of that when we had you on. It was one of the best-rated episodes of all time. I’m grateful for you to be on our show too.
Rob: Absolutely. As we are recording this, you’re launching your book this week. This will go live next Tuesday. Last week, in essence, your third book in your trilogy about selling your company is available now. Honestly, I have a preview copy. I’m going to buy the audible. I got an audible alert today. I’m going to go buy that version, but folks, seriously, you can have a Kindle version for $10. You can go to Amazon, any local bookseller, and Audible for an audiobook if you want to check it out.
The book is titled The Art of Selling Your Business, subtitled Winning Strategies and Secret Hacks for Exiting on Top. The way you framed it to me—I hadn’t realized there was a trilogy. I had read Built to Sell, as I said, and I had noticed you wrote a book called The Automatic Customer, which is about getting subscription revenue.
I never read that because we run SaaS companies and that’s built-in for us. I didn’t realize that you were then going to make a capstone, The Art of Selling your Business. Could you talk through a little bit? I’m guessing a good chunk of the audience has heard of or has read Built to Sell because it’s popular in our circles. How is The Art of Selling your Business different from maybe the other Built to Sell or the other two?
John: Yeah, sure. Built to Sell is how do you build a valuable company structuring so that is not dependent on you personally. The Automatic Customer is all about recurring revenue. You’re right, for a SaaS company, that’s old news, but for a lot of businesses, that’s a new way to think. There’s nothing faster that will take you from a multiple […] to a multiple of revenue when you go to sell your capital and then have recurring revenue, which is the subject around The Automatic of Customers.
The thing that is really interesting is I often—not these days given the pandemic—get asked to speak to entrepreneurs. When I talk about either The Automatic Customer or Built to Sell, oftentimes, the questions the audience has at the end of my speech have nothing to do with my content. They’ll be like, yeah that was great. I really appreciate recurring revenue itself, but what I really want to know is how do I avoid an earnout or that was great but what’s an escrow?
I realized that there’s a real appetite among entrepreneurs to know some of the knots and bolts, the best practices, the hacks for selling a company—the actual transaction itself. That was the idea. It’s really build, accelerate, and then this last book, The Art of Selling Your Business but harvesting the value you created. That’s the back story.
Rob: Very cool. I think one of the reasons I was drawn to Built to Sell, originally—and your writing in general—is not only was it referred to me by multiple people, but there are so many books written by people who have never done it. That’s okay, but it’s more of a journalistic approach.
Prior to writing your books, you started and exited four companies including selling one to a public company. Then you went and wrote your book, you started your podcast, now you’ve interviewed hundreds of founders in-depth about real exits, as we’ll continue to say—the $1 million to $20 million, which is a vast majority of what companies will sell for, I’m guessing on this earth. It’s like the $1 billion exits are just the outliers.
Listeners, if you’re listening to this and you’ve never heard of John or his books, he is both a practitioner and now someone who has a broad range of knowledge around this—obviously having written three books and done these interviews.
I think I want to start with a question of, if a founder is listening to this and they’re thinking, should I sell my business or when is a good time versus a bad time to sell? How can a business owner know or think about when is the right time to sell their company?
John: Right now, a lot of people are asking that question because the pandemic has caused a lot of founders to suffer. In the SaaS world, it’s a bit different. Technology, in many cases, is swamped through the pandemic relatively unscathed. But the old school economy has been crashing, in particular, a lot of service businesses. That’s caused a lot of business owners to want to sell, they want to get out. Of course, the business itself is not always in great shape.
The counterbalancing force, I think, right now is that interest rates are so low. The biggest majority of deals that get done in this space we are talking about today are funded by private equity groups. They run on basically good debt. They run on good debt terms. When a private equity group can get debt cheap, it accelerates their appetite to buy businesses.
Right now is a funny time because, on one hand, you think it’s a terrible time to sell your business. On the other hand, given low-interest rates, it’s actually a very good time. You’re seeing M&A markets reflect that. I think it’s a unique time in history too to be thinking about this topic.
Rob: In the conversations I have both with founders I’m invested in and listeners of this podcast, MicroConf attendees, and such, I have heard that there are definitely a lot of transactions happening. Maybe, to your point earlier, SaaS was lucky because SaaS is still growing across the board, and in some cases has been accelerated by the pandemic.
John: Not to state the obvious, SaaS company, you can still use it at home. It’s a big deal. As good as it is right now for a SaaS company, I think we run the risk of writing it over the top. Have you ever had Rand Fishkin on your show?
Rob: I haven’t yet but Rand is a friend of mine. He’s an investor and mentor in TinySeed. He was going to speak at MicroConf last year, but obviously, we postponed it. I’m invested in his company, so yes, I know Rand very well. Love his book.
John: Yeah, you would have read Lost and Founder. It’s a great book for any SaaS founder. It is required reading. I had Rand on the show, and I had him tell the story of when Brian Halligan from HubSpot came and tried to acquire SEOmoz. Have you ever heard of this story?
Rob: I have. You want to tell it here because it’s really fascinating.
John: Yeah, because it speaks to this idea of writing it over the top and when’s the right time to sell. Halligan comes to Rand. Rand has built SEOmoz software, SaaS business—something around $5.4 million in ARR, annual recurring revenue. Halligan says we want to buy your business. We’re going to give you an offer of $25 million of cash and HubSpot stock. Rand, in his mind, he’s heard this number four times top-line revenue, and he’s on the way from five to what he thinks that year is going to be $10 million in annual recurring revenue.
He’s like four times ten is 40, and here’s Halligan’s offering me 25. Long story short, Rand turns him down and instead takes a venture capital round and the VCs get him to launch a bunch of products in unrelated categories. Long story short, those products failed. Rand actually goes through a period of depression where he’s actually removed by the board by the venture capitalist. The […] venture capitalists often invest is they used preferred shares so they’re guaranteed preferred return.
I interviewed him after this all went down and I said, what’s your stake in Moz worth these days? He’s like, I don’t think it’s actually worth anything because once the VCs get their preferred return, there’s nothing really left for us. I said, wow. He’s like, what’s worse is I’ve got to spend the bulk of the rest of my assets—the cash that I have—on elder care for my grandparents. I said, out of interest, what would that offer from Halligan now be worth given the increase in HubSpot stock? He said it would be worth close to $200 million.
Rob: Oh my goodness.
John: Anyway, I don’t mean to be the bearer of bad news, but it’s an indication or an illustration of writing it over the top when a glib answer to the question when’s the best time to sell? It’s when somebody makes you an offer because, at that point, you’ve got negotiating leverage. You’re not courting them, they’re courting you. You can use that to your advantage, but there is the risk of writing it over the top meaning not selling when someone offers you a reasonable good sum for your company.
Rob: That was definitely something I was concerned about back when we were running Drip and building it. It was growing quickly but there were a lot of competitors. The stock market valuations of public SaaS companies were climbing, climbing, climbing and it was about seven times revenue. Then it got cut in half in January of 2016, which is right around the time there were a lot of people sniffing around at that point.
It was down to 3.2 or something of revenue, and suddenly that became a multiple that potential acquirers were going to base their offers on. Not to say you wouldn’t negotiate against that, but that was an instant justification of SaaS isn’t worth this much anymore. I remember thinking uh-oh, did we ride this over the top? We’ve had this sustained growth of the stock market and of the economy. At that point, it was from basically 2009-2016, seven years. It starts to feel a little long. We’re even further into that now.
I know that I’ve predicted five of the last two recessions, but I do as a startup founder. If you get that offer, it’s tough to walk away. If there’s an offer for enough money, you never have to work again, you really have to ask yourself do I want to walk away from that? And at the possibility of doubling that in the next year or doubling them in the next two or three years because there’s just always a risk.
I don’t think you and I want to be the sky’s falling about it. Anytime an offer comes by, you should sell blah, blah, blah. But what we see in the movies or what we read on TechCrunch of it sounds like every company gets an offer every few months, and that’s not the reality that I’ve experienced. Would you agree with that?
John: I agree 100%. You’ll get those fishing letters from brokers who say, I’ve got a buyer that wants to buy your business. Those are usually not true or disingenuous. You’ll also get a lot of fishing letters from private equity groups and those are sourcing agents. They’re just trying to get a proprietary deal. A prop deal is where the acquirer has proprietary, unique, or exclusive access to buying your business. It’s a recipe for making sure you sell your business for much less than it’s worth. They are bad actors out there who are trying to, essentially, prey on your naiveté or your ignorance about the process. You will get those letters. Those are different from a genuine, large, recognizable company that comes to you and says look, we’ve seen what you are doing and we want to buy your business.
In your case, Leadpages came to you. That’s a very different conversation than a chop shop that’s just basically cranking out letters that basically swipe out the first name of the person. You can quickly discern those by asking and responding thanks for your interest. Tell me, what specifically about our business did you find most compelling. Most of the time they’ll stutter because they have no clue what your business does.
Rob: It’s a mass cold email. I think that’s a good point to raise, and piggybacking on that, let’s say I’m a startup founder. I’m a SaaS founder. I’m doing $1 million, $2 million, $5 million and I do get an email from a company that—whether it’s private equity or whether it’s a strategic, potential acquirer—are probably much bigger than me. They probably have done this a lot more times than me, and they, in my mind, have more leverage. What’s the best way that you would advise a startup founder to try to gain leverage when negotiating with a player that is so much larger or more experienced than they are?
John: Piggybacking on the last comment, I would definitely say getting multiple offers gives you that leverage. I’m reminded of James Murphy, I interviewed him for the show. He developed something called Viviscal, which is a hair loss treatment for women. It turns out, women lose their hair for different reasons than guys do. He developed this hair loss treatment. He became this huge success. Got Reese Witherspoon to endorse it. Got it to $50 million in revenue, not totally ARR but annual revenue, and he went through the process.
He got 12 bidders for the company, and the best offer at that time was I think €103 million, they’re based in Ireland. The 12 offers were perfect because that gave him great leverage. He played one off the other, threw a whole process, and got down to two offers both of which were then increased their offer to €130 million. And then of course he went through a second round of playing one off of the other and ultimately got €150 million from C&D, the ones who own Trojan condoms along with a bunch of consumer packaged goods.
The moral of the story is he never would have been able to gin up the offers that much had he not started with 12 really good ones. He’s a tiny company relative to C&D, but it was the recipe he needed to punch above his weight.
Rob: How does one do that? I’m imagining you get this email and it’s like I guess I should start a conversation. Are you willing to sell? And typically, what I did—and the advice I’ve heard—is you play hard to get. Of course, you can always reply with everybody has a price type thing but you don’t want to act too eager like I’m really looking forward to it. What is your first response to an email like this as a founder?
John: To an email from a potential acquirer? Like legitimate you vetted that you think are real?
Rob: Like you recognize the name like Facebook. Facebook Corp Dev emails me and says, hey we’re looking for a strategic acquisition in your space. I know they would never do that upfront, and there’s a bunch of code words that they use about partnerships. But when you get to that point, how do you interact with that from the start to try to balance hard to get but also wanting the process to continue with the conversation.
John: I think there’s no harm in having that conversation with a strategic acquirer, and I think going into that, what you’re going to want to do is arm yourself with an entire bucket full of what questions. What questions, of course, are open-ended questions that elicit the creativity of the person you’re asking the question of.
If I was going to a meeting with Facebook Cooperative Development, I would have 10 or 20 questions that start with things like what was it that you found in my company that you were interested in? What do you think the strategic fit is? What do you think some of the barriers would be?
Basically, what you’re trying to do is dominate the conversation. You’re trying to get them talking 99% of the time. The reason you use what questions is they are open-ended and force an answer, and you keep control. Just like a good salesperson in a consultative selling context would never let the prospect take control of the conversation, equally, you never let the cooperative development person take control.
You want to be on the offensive. When I say offensive, I’m not talking about you talking. I’m saying you pushing them to keep talking. That’s the way you’re going to take much more information out of them that you’re going to give to them. The idea of getting suckered into (if you will) a proprietary deal or a prop deal—which is what these strategics call it when you start negotiating with them independently—means you’re going to give up a lot of negotiating leverage.
I think it’s okay to have that conversation. You just don’t want to give up too much information. Information in an M&A process is valuable. I’ve got a crude analogy in the book, it’s like a striptease. I know it’s terribly crude and not very politically correct, but in essence, the selling of your business is somewhat like a striptease. Where the information about your company—your ARR, your net churn rate, your whatever—that’s all your clothing. You want to leave it on but undress in a very strategic tantalizing cadence, which is designed to maximize your attractiveness in the eyes of an acquirer.
It’s all done very deliberately. I had someone ask me recently. Someone’s looking at acquiring our business, should I share my QuickBooks login information with them? And my answer was, no, that’s a little premature. Again, information about your business is very precious. It’s to be doled out or dripped out (to use your word) very slowly and deliberately.
Rob: Yup. And get an NDA before you give MRR. That’s always my typical advice to founders. Why would I give my revenue to someone without having some type of NDA signed?
John: An NDA is going to be a good proxy for interest because acquirers don’t like signing NDAs because it exposes them to liability. If you’ve got a tire kicker, someone who’s just sniffing around your company to get competitive information, they’re unlikely to want to sign an NDA. Whereas if you got someone genuinely interested, they’ll sign an NDA.
Rob: You mentioned earlier a proprietary process where basically you don’t have other bidders. You don’t have a competitive bidding war in essence that you set up. I know that there are folks who run these processes. My co-founder with TinySeed founded a company called Discretion Capital, and it does sell-side processes for SaaS companies. They’ll contact a bunch of private equity, they’ll contact a slew of strategics, and they run that process to create a bidding war.
When you said that the guy (I forgot his name) who’s selling earlier had a dozen offers, that is crazy. That’s amazing to have a dozen offers. Is that what he did? Did he run a process himself? Did he get help to run a process? How does that usually look like? Because it sounds, for me, I’m not big into spreadsheets, the MBA stuff. I’m a startup founder who’s building a business. It sounds complicated and, frankly, a little scary to me. How does that work out?
John: Dan Sullivan, the guy who […], talks about these things being who problems not how problems. What I mean by that and what Dan means by that is that these things—finding multiple bidders for your company—is something that we as a founder think is our job and actually, it’s not our job. It’s an M&A professional’s job to find and acquire for your company. That’s what they do.
Instead of trying to figure out how to do it yourself, I would—in all cases—hire an M&A professional. That’s not what I do for a living, so I say that without trying to sound you can’t hire me to do that. I’m not trying to make a commercial for me. But I think they are worth their weight. They’re going to create competitive tension for your deal.
I think the only exception to that, I interviewed a guy—Peter Kelley—and he built the SaaS company for online auctions of used cars. It’s not a sexy business, but it’s basically an auto trader for used cars. Where if you’re a car dealer, you can buy your inventory on this website. The competitors in that space, there are three giant, old school auctioneers that own that space. They are old school. The big car goes on the conveyor belt and the used car dealers sit there with a pencil and paper and write down the specs and make an offer. It couldn’t be more old school.
All three of these giant auctioneers had approached Peter about buying his company. Peter, for a variety of reasons, decided it was time to sell. In that case, he just went all three and said, okay, you’ve expressed interest. Make your best offer. He knew who they were. He did not want to run an auction because he was afraid that if he told BMW and Ford about his business model, they would create competitive auctions. He wanted to keep it very, very close to these three companies. He was very sure they already wanted to make an offer.
That’s a fairly unusual circumstance. In that case, you might run your own process. But again, in almost all other cases, I think an M&A professional is going to really pay for themselves by creating this competitive tension.
Rob: I would agree. I think that’s a mistake that a lot of founders make, myself included, of we start our company and you’re doing everything. You can learn things quickly and you feel like you’re doing really good at learning and picking up new skills. This is a skill that is not something you can learn easily.
In fact—I’ve said this many times—when we sold Drip, one of the first things I did as it got serious was to hire representation, essentially. A broker who acted as an investment banker, an adviser on our side because he had done dozens and dozens of deals—tens of millions, hundreds of millions—and just knew what was standard and knew when to talk me off the ledge. It’s a very emotional process, as a lot of people talk about. That is one thing.
Same thing with me. I’m not selling anything either. I’m not a broker. It doesn’t matter to me if folks hire a broker or an adviser to do this. But I think it’s as you said, worthy of gold, not only for the advice that you get but for the mental side of things. The reassurance that I’m at least going about this. It’s like would you sign the contract without a lawyer reviewing it? You’re going to hire a lawyer to do stuff. Why would you construct a deal without someone on your side who really knows how to construct deals well?
John: Yeah. I think you’re hitting on it right with there’s a very practical reason. This is what they do, this is their job. There’s also that emotional reason where they act as that foil. Think about you pounding your fist on the table asking for an extra half-turn multiple extra whatever. The next day, you’re reporting to that individual. You burnt all that relationship capital being just a jackass in the negotiation and now you’ve got to sum up, put your tail between your legs, and say, please, can I have some more budget to do X, Y, or Z?
I think you want to insulate yourself. The good broker can play both good and bad cop, by the way. They can play bad cop. They can insulate you and they can pound their fist. They can also do the opposite. They could be the good cop. When you’re pounding your fist and frustrated with something, they can communicate that frustration but in a much softer way to the other side.
When we’re recording this, I think today Rob—by the time it airs, it’ll be a couple of days ago—is the 12-year anniversary of Sully, if I’ve got it right, landing the plane on the Hudson River. Do you remember that?
Rob: Yeah, I do.
John: I think it’s the anniversary, and I think it’s the perfect analogy for a SaaS founder selling their company. Sully had done literally everything there was to do in an airplane, Sully had done in his 40-year career. He’d flown the first seat, left seat, right seat. He’d gone through terrible turbulence. He’d done everything. He was, in fact, the trainer who trained other younger pilots. He had never in his 40-year career had the opportunity to land a plane on the Hudson River. One-shot, huge stakes.
The same is true for a lot of entrepreneurs, right? We’ve been running our company for, in many cases, decades. We could talk all day long about marketing funnels, hiring employees, and NDAs. But when it comes to the mechanics of selling, it’s just not something you practice every day.
Rob: Yeah, indeed. You may do it once or twice in your life, but there are people who’ve done it 20, 30, 40 times. If I have a marketing campaign, I buy some google AdWords, and I accidentally leave it on or I get low clickthrough rates, I might burn tens of thousands of dollars, depending on the scale. If you sell your company poorly and you don’t negotiate for things that maybe you should, you can leave literally millions of dollars on the table. That’s why this is important.
John: I interviewed a guy, Kris Jones, have you ever heard Kris in the show? He ran an affiliate marketing program called Pepperjam. Do you know Kris?
Rob: I haven’t heard of him.
John: Good guy, and I interviewed him on my show about this idea of leaving money on the table. He gets a call from my Michael Rubin who was the Founder of GSI, sold to PayPal—a huge, multi, multi-million dollar deal. Michael Rubin calls up Kris and says, come down and see me. I’m intrigued by this company, Pepperjam. What are you guys doing?
Kris goes down and he’s expecting a one-on-one meeting with Michael. Instead, he walks in on Michael’s office and there are his chief financial officer and his chief counsel flanking him. Without even exchanging, hi, how are you? Michael says to Kris, what do you want for Pepperjam? Kris is like, I was expecting a conversation here. Michael repeated. He’s like, what do you want for your company?
Kris blurted out a number, feeling on the spot. Rubin turned to his chief counsel and his CFO and said okay, I think we can get a deal done. What he was communicating to his lieutenants was, don’t pay a penny more than the number Kris just said. Kris, upon reflecting after being put on the spot, he says, I probably should’ve answered that differently because I put a ceiling on which I’m never going to sell beyond. It’s just one of the mistakes we make when acquirers approach us and say what do you want for it? We’re under no requirement to answer that question. In fact, I think answering it is usually a mistake.
Rob: Right. That’s good advice. There’s something else in your book that I’m really intrigued by. I like mental farmworks, I like rules of thumb, and I feel like this 5-20 rule is an interesting rule of thumb and I never heard it anywhere else. Do you want to tell people what that is?
John: Simply put, the 5-20 rule means that a company that is going to acquire your business is likely going to be between 5 and 20 times the size of your company. Now, that’s not always going to be the case. Clearly, Google makes acquihires all the time, and they’re thousands of times more. But it’s a rule of thumb, and it means that the most likely acquire for the companies, I think in our community—and I say that your audience if you will—they’re likely not going to be Google, Tesla, and Facebook. It just doesn’t move the needle for them.
But most likely to get an offer from a private equity group. Someone rolling up SaaS companies together because they’re generally in that space, and you’re going to be a material acquisition for them. But it’s also not so big an acquisition that it’s going to put their company out of business. As you look out on the landscape and say, who’s most likely to buy my business? You might throw Google, Tesla, and Apple on your list. But realistically, it’s probably someone slightly smaller, again, between 5 and 20 times the size of your company.
Rob: Nice. I like that. I think it makes sense. What you said, use the phrase acquihire and most folks have heard that. But that’s different than what we’re talking about. We’re talking about selling your company and getting a really great multiple on revenue. That’s to strategic or private equity, and there’s a whole process that goes on there.
Acquihire is when there’s a really small team—oftentimes just the founders—like you said, Google or Facebook comes and says, we like the tech you build. We’re probably going to kill the tech, we just want you to come work for us. They give, typically, it’s a lot of stock. You might get a half-million or a couple of million dollars in public company stock. Is that how you describe an acquihire as well?
John: That’s exactly right. Really, they’re BATNA, Best Alternative To a Negotiated Agreement—in other words, their plan B—is they’re going to hire a recruiter from […] or some fancy recruiting house and they’re going to go hire for your people. They’re just doing the math and say, okay, to get a CEO, I got to hire a recruiter, a head hunter, and it’s going to cost me $100,000. And then I got some VPs, that’s going to cost me $80,000 each. It’s $600,000. Give them some stocks and yeah, you’re right. Kill the tech, we just want people. That’s an acquihire.
Rob: I want to ask you if there are any—evil tricks is maybe a strong word—worst practices like a Fortune 500 or private equity group might use to prey on a more inexperienced founder?
John: There are tons of them, that’s why I dedicated a whole section of the book to the things that acquirers do that you need to look out for. I think probably the most damaging is something called re-trading where you agree to a price for your company at a letter of intent stage. When you sign a letter of intent, you’ve got to sign a no-shop clause, meaning you’re not going to continue to negotiate with anybody else—like getting engaged, you agree not to see other people.
At that point, the leverage in the deal goes from you as the seller having most of the negotiating leverage to now with all in the hands of the buyer and they know that. Re-trading happens when they use that leverage to manufacture reasons to lower the price they offered you at the LOI. That’s an evil trick they use because, first of all, they know they’re probably dealing with someone who’s going through this the first time. That you’ve probably told your employees, you’ve told your spouse, you bought the ski house in your mind, and you’re now very emotionally committed to selling.
They just say, well, we’re going to drop our price by 10%. You say, why? And they say, well, that’s just our decision. You have very little recourse. In a letter of intent, it’s usually non-binding, meaning they can walk away, you can walk away. But if you do walk away and go back to the other people you had at the table before, they’re all going to wonder what they found in due diligence. What’s lurking in your closet? What skeletons do you have that they found? They’re going to take a very skeptical view of your company if you say, yeah, we were going to do a deal but it fell apart. They’re going to just really highly scrutinize you.
Re-trading is a fact of life. It’s one where you can defend yourself against it, first of all, by hitting your numbers. If you have numbers that you put in a plan that you’ve shared with an acquirer, during due diligence, you got to hit those numbers. Equally, there’s illegitimate re-trading, which is the one I’m talking about where it’s done for no other reason other than because they can.
Rob: That’s crappy. You talk about that a little bit in Built to Sell, and I had heard of folks doing that. Luckily, I’ve had cursory involvement in dozens of exits where either a founder just gives me a phone call and says, hey, I’m thinking about selling and we talk about it. And I haven’t heard that happening, but obviously, that’s rough. I would have a tough time working for that company. I would feel like I got screwed.
John: Again, you’re emotionally so far deep into the process. I just did an interview on the show, I don’t think it’s gone live yet when we talk. But it describes a two-year selling process where the acquirer made an offer, they both mutually signed a letter of intent, and then the acquirer couldn’t come up with the money. They drag them out, drag them out, drag them out for nine months, and then they bailed and it went on.
That happens and it’s a dirty underbelly of the world of acquisitions. The other one that comes to mind around tricks that big companies use is tying your earnout to something that is completely out of your control or so outlandish that you’re never going to hit it. An earnout, of course, is where you get some cash upfront and then there’s a future payment. It’s less common in a SaaS business. Many of your listeners, hopefully, will be able to avoid an earnout. Some of them, especially those in the service business would certainly have to deal with an earnout.
One of the classic tricks is to tie an earnout with thresholds that you have to hit along the way in order to unlock the budget to hit the next gate. I’m reminded of a guy named Rod Drury. Rod started Xero, the cloud-based accounting platform that you’ve heard—a big competitor of QuickBooks. Before he started Xero, he actually created a company called Aftermail, which was a way to archive email and it was a very successful company. Built it up, sold it for $45 million. That was the headline number.
But it was actually—after we unpacked it on the show—$15 million of cash, the rest in an earnout. Rod, as you can imagine, he’s a young guy, he sells his business for $15 million. This is life-changing money. It blew his mind. He had trouble getting back in the driver’s seat. He had trouble hitting his first gate, which would’ve unlocked the budget to help him hit the earnout. Anyway, six months later, he bailed and walked away from whatever it is, $30 million, that he stood to gain if he stuck it out for three years.
But what he realized was, he’d signed up for this thing that he had no chance of hitting because he needed six months just to sober up and unwind from the sale, which he just didn’t give himself. He missed the first gate, and then it’s impossible to reach the next.
Rob: That is something that I tell founders. I was actually talking to a founder literally right before this call with you and me. He has an offer, and it’s a life-changing—never have to work again—number. We were talking about what that means. The advice I often give is when you sell the company—if you do have an earnout and you still have to work—it gets a little easier because you can breathe easy like wow, I’ve taken a lot of risks off the table. But it’s tough to keep your head in the game. I think that’s pretty common.
John: Did you have an earnout with Leadpages? I can’t remember.
Rob: Yeah, we did.
John: How was it?
Rob: It was relatively short. They were very reasonable and we also negotiated pretty hard to keep it short. For us, it actually wasn’t bad at all. I don’t know if we got lucky or it was the judgment that we did. We chose to sell to Leadpages rather than some other interested acquirers because I did trust that they were going to treat us well and they did. It wasn’t based on any of the got […] numbers. There were no milestones that I felt uncomfortable with, if that makes sense. In the end, it was definitely a good decision for us. No regrets there.
John: That’s fantastic. If you could get your earnout tied to something other than earnings, it’s ironic even the name earnout. But if you could get it tied to a goal like a topline revenue, even then you’ve got probably a little more control. The problem with tying an earnout to your earnings is, of course, once you’re at the vision of another company, you lose control over your financials. That gets done by head office. They can oftentimes graft other expenses under your P&L because head office expenses. It just gets messy trying to control the expression of profit when you don’t control it anymore.
If you have to deal with an earnout, getting it tied to something more like revenue or in your case, launching of a feature. That’s way, way more in your control.
Rob: Yup. As we wrap up, three years ago, if a founder were to email me and say, hey, I’m thinking through this exit. Maybe they have no offers, maybe they have an LOI, whatever it is. If I have time, I always jump on a 30-minute call just to chat with them, just to give them some moral support and talk through the mental process. But I also recommend that they listen to at least a few episodes of Built to Sell Radio just to get their head around how it might be, and I recommend a few books. It used to be Built to Sell and Finish Big by Bo Burlingham. I really like that book. I read it multiple times as well as we were exiting.
Now, I’ve added two more to that list. There’s one called Before the Exit by Dan Andrews. And you actually interviewed his co-founder, Ian Schoen, on the show many years ago. They had a cat furniture and valet podium business. Before The Exit: Thought Experiments For Entrepreneurs is a good one. And, as of today, I’m adding The Art of Selling Your Business. Again, if you’re thinking about selling your business or even if you’re not, this is a no brainer. Just spend $10 or $20 and get educated.
Obviously, John, you’re a wealth of knowledge, and I really appreciate you taking the time on the show with me today.
John: Thanks, Rob. It’s great to be with you.
Rob: Thanks again to John for coming on the show. It’s interesting, I know that I talked a few times during the interview about how you should just go out and buy the book even if you’re not thinking of selling a business. I really mean that because this is the type of thing where I’ve gotten to the point where for a $10 book, $20 audiobook, or one Audible credit, however, you think about it, it’s not the cost of it.
The real cost is the time that you have to invest because we have these big lists and we have so many priorities. I’ve read through The Art of Selling Your Company and I know that anything that John Warrillow puts out is going to be of that high-quality bar that it’s going to be worth your time at some point.
His way of thinking around negotiation. I love the 5-20 rule. There’s just a lot of nuggets in his brain that he has put in his three books, frankly, that it’s one of those that I think is a good thing to just have. It’s good knowledge to have in your back pocket as you’re running a company, even if you never plan to sell. Thank you for joining me again this week. I look forward to talking to you again next Tuesday morning.