SaaS Exit: Strategic Buyer vs. Financial Buyer

I received a few emails in response to my article on SaaS capital markets. I thought I’d address one of the questions:

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.