SaaS Exit: Strategic Buyer vs. Financial Buyer

I thought I’d address a recent ques­tion I received:

What is the main dif­fer­ence between a “finan­cial buy­er” vs. a “strate­gic buy­er”?

A finan­cial buy­er is buy­ing your P&L and growth rate of key met­rics. Annu­al Recur­ring Rev­enue (ARR), EBITDA mar­gin, and growth rate all have cer­tain mar­ket val­ues. The SaaS val­u­a­tion mul­ti­ple per mil­lion dol­lars is typ­i­cal­ly high­er in a larg­er com­pa­ny.

$1M ARR in a $1M ARR com­pa­ny is worth a lot less than $1M ARR in a $100M ARR com­pa­ny.

Often, a finan­cial buy­er will acquire mul­ti­ple small­er com­pa­nies, report con­sol­i­dat­ed P&Ls, and get a val­u­a­tion boost as a result of the size of the com­pa­ny.

A strate­gic buy­er is not buy­ing your P&L. They don’t care about your P&L. They are buy­ing the impact that own­ing your busi­ness has on their P&L — either how own­ing your busi­ness would pro­tect their P&L from loss or enable their P&L to grow more dra­mat­i­cal­ly.

An exam­ple of the for­mer is when Face­book bought Insta­gram for $1B despite hav­ing no rev­enues. Face­book has a mas­sive infra­struc­ture to gen­er­ate adver­tis­ing sales from social media traf­fic… and Insta­gram had the fastest-grow­ing user­base in his­to­ry at that time (even faster than Face­book).

There was also a threat that if Face­book didn’t buy Insta­gram, Google would… and that would be dev­as­tat­ing to Facebook’s future P&L.

(In this exam­ple, Face­book bought Insta­gram both to pro­tect their down­side and also to enhance their upside.)

An exam­ple of the lat­ter would be Ora­cle buy­ing a com­pa­ny to fill a gap­ing hole in their prod­uct line — a hole that would prompt an exist­ing Ora­cle cus­tomer to leave the Ora­cle ecosys­tem to fill the hole. Regard­less of the acquired company’s sales, Ora­cle could imme­di­ate­ly turn around and cross-sell it into the Glob­al 2000.

For exam­ple, sev­er­al years ago Ora­cle lacked an eCom­merce plat­form prod­uct offer­ing. They bought my for­mer employ­er ATG (which used to run the eCom­merce web­sites of the For­tune 500 in the pre-cloud days. I used to run the eCom­merce plat­form divi­sion of ATG back in 1999 and 2000).

Years after I left ATG, Ora­cle bought ATG and rebrand­ed the prod­uct “Ora­cle Com­merce Cloud”… which, not coin­ci­den­tal­ly, runs off of Ora­cle Data­bas­es (DB)…. and wouldn’t you know it, inte­grates with Ora­cle Finan­cials, etc.

Even though ATG had a siz­able P&L, Ora­cle bought ATG for what Oracle’s P&L would look like after Ora­cle was done cross-sell­ing the hell out of the ATG prod­uct to Oracle’s glob­al install base of cus­tomers.

One of the rea­sons you want a work­ing the­o­ry as to whether you would want to sell to a finan­cial or a strate­gic buy­er is that you poten­tial­ly make dif­fer­ent oper­at­ing deci­sions.

For exam­ple, if you think Ora­cle is a poten­tial strate­gic buy­er, you want your prod­uct to run on Ora­cle DB (or at least have it as an option) or what­ev­er they call their DB in the cloud. You’d bias your inte­gra­tions to favor the Ora­cle plat­form so that much of the tech­ni­cal inte­gra­tion work that Ora­cle would do post-acqui­si­tion is already done. This makes it very appeal­ing to a buy­er, as there are few­er hur­dles to real­iz­ing the strate­gic ben­e­fit of an acqui­si­tion.

Sep­a­rate from tech­ni­cal inte­gra­tions, you’d want to start tar­get­ing cus­tomers that own your prod­uct and your prospec­tive acquirer’s prod­uct. When they do due dili­gence, you want them to hear how thrilled your joint cus­tomers are with the com­bi­na­tion of the two prod­ucts. The the­sis is that such an acqui­si­tion would improve gross and net cus­tomer churn for the acquir­er. You want joint cus­tomer feed­back to cor­rob­o­rate that the­sis.

If you thought Microsoft would be the most like­ly acquir­er, then you’d want to write every­thing on a Microsoft tech­ni­cal stack, etc.

The gen­er­al idea is you want to think of the tar­get acquir­er as you would a tar­get cus­tomer. You think about their needs, their objec­tions, and you try to make oper­at­ing deci­sions that bias toward meet­ing their needs and address­ing their objec­tions… espe­cial­ly when those adjust­ments have rel­a­tive­ly minor cost. You think about your com­pa­ny as the prod­uct to be sold to the “cus­tomer” (a.k.a. the acquir­er).

Most founder CEOs don’t think this way… but should.

They focus on their cus­tomers, beat­ing their com­peti­tors, and run­ning their busi­ness­es. This is def­i­nite­ly nec­es­sary, but it is not suf­fi­cient.

If you plan to exit, it’s use­ful to strate­gize and be proac­tive about the exit strat­e­gy. While exits some­times do just hap­pen on their own, often they need to be engi­neered, designed, and exe­cut­ed.

You want your exec­u­tive team focused on mak­ing the month, the quar­ter, and the year. You’re the only one in your com­pa­ny whose job is to get the exit right (assum­ing you want to exit).

You usu­al­ly want to start think­ing ear­ly about mak­ing your busi­ness easy to exit… often, one to three years in advance. You don’t want to acci­den­tal­ly make a deci­sion today that will shoot you in the foot for your own exit option a year or two lat­er.

One of many con­sid­er­a­tions in this process is whether you’d sell to a finan­cial buy­er or a strate­gic buy­er.