Falcon Capital Partners, based in Radnor, Pa., has helped more than 200 technology CEOs find a path to liquidity (and, sometimes, retirement) via mergers and acquisitions.
Managing director Mark Gaeto has more than 25 years of experience in IT, as an owner, senior executive, sales executive, investor, and advisor. We figured he'd be a good guy to ask about the most common mistakes software companies make when they're courting buyers.
Mistake #1: You don't have clear ownership to your intellectual property.
"This is a common tripping point," Gaeto says. "You need to make sure all employees and independent contractors have signed over all rights to your IP. And, this must be documented before any M&A process starts.
"A deal we were on the phone about today has some IP ownership issues, primarily to satisfy some tax situations. Patents are not really necessary; in fact, some people prefer to not see patents because of disclosure issues.
"Sometimes there's a situation where we act as a board advisor for a few months to do things the right way. We try to smooth out all those things early on."
Mistake #2: You disclose too much information too soon in the process.
"Unfortunately many so-called 'strategic acquirers' use the M&A process to learn market information," says Gaeto. "Confidentiality agreements help, but sellers should beware of disclosing the 'heart' of their products too early in discussions.
"It could be disclosing customer names, it could be too much around technology. It's kind of like a dating game: You disclose as much as you need to feel comfortable. You really need to qualify the buyers early on.
"What we usually do on the sell side is to prepare a teaser agreement and confidential memorandum, with high-level financials. We would never disclose a client list or transaction size per client. Instead, say, 'Here is a range.'
"Early on in the cycle, less is more. Any supplier or employee info is always kept close to the vest.
"If you go out to 10 or 15 interested parties and disclose a lot of information, that's a bunch of competitive information, and the ultimate buyer is put at risk, where they have to reposition the product or create risk.
"A lot of it is just common sense. You need to have an NDA [non-disclosure agreement] in place, but sometimes those are really one-sided: 'Anything we figure out on our own is ours; sorry.' You really need to understand the motives of the larger players."
Mistake #3: You disclose information to the first person who shows interest.
"This is because too many sellers don't have a structured process," Gaeto says.
"Instead, say, 'We're really interested in engaging with you, and we'd love to have a first meeting with you. If that goes well, we'll introduce you to our advisors.'
"We were once approached at an event by several people, and had some unsolicited offers. I remember sitting down with the partners and saying, 'This looks like a really good offer -- but how do we know it's good?'
"We got a banker and investment adviser involved, and that offered doubled. A $15 to $18 million offer went to $37 million, and we had six very good offers.
"You need to compose yourself, get the right advice, take the first meeting to learn more -- but don't climb into the back seat on the first date."
Gaeto gave us a copy of Falcon's internal document titled "Sell Side Process & Examples," and it's loaded with detail; SoftwareCEO paid subscribers can get the PDF from our Downloads Library.
Mistake #4: You don't know how to position your IP.
"Getting your maximum value is all about the IP and the market," says Gaeto. "With tech firms, there are ways to position this. You really need a banker who understands how to do this and not just rely on financial numbers.
"A lot of people don't really understand the true value of their IP. For the technicians, it's all about the beauty of the architecture, and for a user it's 'Wow, I can perform this task better and more efficiently.'
"But the bottom line for an investor is how do you contribute to their results? You have to understand and be able to articulate that. People get into software features, and they forget about the bigger impact.
"The second thing is that sellers don't understand how that value translates into a revenue model. They're selling a solution in a very traditional way, not understanding how they're saving the client millions of dollars. For example, maybe they should be selling on a transaction basis.
"Finally, you need to figure out how your tool can add synergies to the buyer. How can you position your new product into a bigger player's product base, and influence their revenues over time? A good M&A advisor -- someone who knows the industry -- should be able to do that for you.
"One of the things that a lot of bankers don't do, and a lot of CEOs forget to do, is really figure out how to value the IP. You have to talk about the cost to recreate the technology and market it.
"If you're salesforce.com and you look at Radian6, you say, 'How long is it going to take me to build this thing?' From their perspective, it's going to cost $30 million to build, and take three years to do it. We use that in a lot of our negotiations, and usually it pays dividends for the seller."