Planning for M&A of Venture-Backed Companies

30 Sep ’05

Bill Burnham has a terrific post setting out his ten commandments of venture-backed M&A. Highlights are below (together with some notes of my own for a few of the points), but follow your way through to the post for a lot of savvy and useful detail. Keep in mind that to varying degrees these are good to have, but not necessarily easy to get.

  • Don’t Give a Strategic Investor a Right of First Refusal, Right of First Offer or a Protective Provision that Enables Them to Block a Sale.
  • Require “Drag Along” Agreements In All Series of Stock.
  • Don’t Have More Than 3 Separate Series of Preferred Stock Outstanding At Any Given Time.
  • Don’t Give Later Stage Investors Both Preferences and Protective Provisions.
  • Don’t Fire Founders Without Obtaining Releases and Drag Along Agreements. The release is a no-brainer, and the drag-along should never wait for the separation – it should be agreed upon when the stock is issued to the founder (this is rare) or at the latest when the venture money is invested (this is common).
  • Don’t Enter Into Contracts That Create Liabilities More than 2 Years In Duration. True enough, but the obligations created by these contracts can often be easily assimilated by acquirers, which are often large companies that can swallow these commitments without even a hiccup.
  • Write All Customer Contracts And Partnerships Such That They Can Be Transferred to An Acquirer And/Or That Such Contracts Can Be Terminated With Reasonable Notice. This is generally not a big deal – it’s not an issue in the typical share purchase or amalgamation, and a clause permitting assignment of a contract upon the sale of all or substantially all of a company’s assets is very common and rarely controversial (though the counterparty may want a right to terminate if the acquirer is a competitor).
  • Don’t Enter A No-Shop Without Hammering Out All of the Key Terms and Conditions of a Sale First. Indeed, doing this is guaranteed to telegraph your desperation.
  • Don’t Allow A Buyer to Interview Employees Until At Least An LOI is Signed. The LOI is generally far too early to allow this to happen. This should be about the last due diligence step, and should generally wait until most business issues have been ironed out in the deal. No unsupervised conversations with employees should be permitted. Make sure that all employees are subject to an NDA (they should be in any event). Keep in mind that employees will, as soon as the writing is on the wall, look for opportunities to secure their relationship with the new owners, possibly by currying favour to the disadvantage of the seller.
  • Discuss Exit Expectations With Management and Board Members Prior to Funding and At Least Twice a Year After That.
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