Europe lacks the multibillion tech IPOs that are the norm in the US. Are European founders not ambitious enough?
The big IPOs certainly grab the attention and are good headlines, but in reality, a very large majority of exits aren’t IPOs but trade sales, both in the US and in Europe. Of these trade sales, the biggest portion, 90% or higher, is below USD 200 million. So the answer to your question is that this is mainly a problem of perception, not ambition. Yes, sometimes you get a bit the impression that many entrepreneurs are happy to pat themselves on the back just because they were able to raise money or because they won an award. However, for companies that have raised external financing, the true measure of success is to be able to exit the company and generate a positive return on the investment. In nine out of ten cases, this will be accomplished not via an IPO, but by selling your company for a one, two, or low three-figure million sum to another company. This is important for entrepreneurs to understand and keep in mind as they raise capital and think through their exit strategy.

“Founders struggle to clearly articulate what their company actually does.”

I imagine that the most pressing questions for entrepreneurs are when to sell and how to maximize the valuation of their startup.
Of course, but I tell them that there is an even more important question at the start: Are you able to describe in easy to understand language, and ideally demonstrate, what your company does and why that is valuable to a potential buyer? Time and again, especially with deep tech startups, the founders struggle to clearly and succinctly articulate what their company actually does, and why it’s important. Potential buyers don’t care about your fancy technology, they want to know why it matters, what results it delivers, and how it can help them in their business. As a founder, you need to be proactive in thinking about exit considerations early on. Big companies that acquire startups tend to be quite tactical, and it’s helpful to have strong relationships with key insiders at these companies, as these people could eventually be the ones leading the acquisition of your company. One way to build these relationships and also demonstrate your startup’s value is by first working together with big companies in a commercial or partnership capacity. I’ve often seen successful commercial relationships turn into good M&A outcomes. Again, the key is that you need to identify which people to talk to and build relationships with at your potential buyers. You want to be top of mind for them, and for them to be aware of your company early on.

Speaking of making potential acquirers aware of a startup early on: Is it a good thing to have strategic investors in early financing rounds?
The reason why I can’t give a definitive answer is that not all strategic investors are created equal. Take Intel Capital or Google Ventures, for example. In addition to capital, they bring great networks and can really help accelerate a company’s growth. Importantly, they don’t put undue burdens on the companies they invest in; for example, they will not come in and say that they want exclusivity on commercial projects or other special rights. This can be a great setup. But I’ve also seen many times strategic investments coupled with undesirable and often exclusive licensing or other commercial deals that has rendered the startup unsellable to any other buyer except for the strategic investor. Startups must remember to be careful when interacting with these big companies, especially as it relates to investment. Also, you should never give them access to your core IP. Remember that while the big companies may be friendly with you, they are not necessarily looking out for your best interests. They have achieved their market leadership positions by outcompeting others along the way. As a founder ensure you are making well-informed decisions that don’t restrict your future exit options.

That sounds a bit like all a potential acquirer wants to do is defraud naive founders.
The power dynamics in exit discussions can be very imbalanced. On one end of the table, you have the small startup with founders who are offered what at first glance may seem to be large sums. On the other end are large and sophisticated organizations that are serial buyers with well-defined M&A strategies. They want to acquire companies as inexpensively as they can, and they’re very good at doing just that. Often, the people who lead the acquisition discussions at these big companies are not only smart, but also very nice and personable. They also know how to effectively use the leverage or brand name of their company when engaging with founders. As a founder, you need to realize what is happening and ensure you take the necessary steps to maximize the value of your company. Remember, these people may be friendly, but they are not your friends!

What to do?
Be proactive and seek out advice early. The first interactions you have with an interested buyer are critical and often lay the groundwork for what the future holds, either for the positive or negative. Having somebody else involved who can help with regards to the interested buyer and who can also find other possible buyers is helpful to increase competition in the sales process. This leads to more options for your company and higher valuations. It is ideal to have several potential buyers instead of just one, as this is the best way to get to an attractive outcome that is satisfactory for both the founders and the investors in the startup.

Is there something like a fair exit price?
As an advisory firm with an experience of nearly 200 transactions, we can often estimate the price range in which a transaction will occur. There are outliers, I would say that in 9 out of 10 cases we’re very close with our estimate. However, if a founder has unrealistic expectations about the exit price, we usually turn down the mandate. I’ve seen founders where, for example, we estimated a fair value of 50 to 60 million, but they were absolutely convinced that their business was deserving of a three-figure exit.

I mean, this is probably a frequent question that founders have to ask themselves: Should we sell for price X today or should we raise another financing round and sell for much more some years down the road.
Of course, and our firm often provides advice to companies on this topic. Although we’re an M&A firm, we most often tell companies they are too early to sell and instead should raise more capital to continue growing. However, I often tell founders that just because the exit price is higher does not necessarily mean that you will walk away with more money because your stake will get further diluted in a financing round. And I have met with many tech founders who had the opportunity for a nice “promise value” sale but decided to raise additional capital instead. Many of these founders eventually end up regretting this decision.

What do you mean by that?
If you want to optimize the exit value, you need to understand what type of company you’re building, and where in the company lifecycle it is at. At the beginning, the value increases when you build the team and “validate” your technology and product. This could be when you ship your product to your first customers, or it could be when you first demonstrate the effectiveness of your technology, or it could be your first design win. It really varies by type of company. At this stage, you may be able to realize a “promise value” exit where a buyer is willing to pay for what has been created so far. The buyer sees the potential of the company and wants exclusive access to it. We have done many of these deals where our client has very little or no revenue and the sale prices were in the high two-digit or three-digit millions. Much later if you build your company to where it is generating millions of revenues, a buyer is going to pay for the financial value of your company. But in between these two peaks, when you scale up your company and start to sell in earnest, there is a valley of death valuation-wise because you are typically raising substantial capital to build out the areas of your business like finance, HR, sales, etc. that have little to no value to many buyers. This is why I say that many tech startups would be better served by an earlier promise value exit instead of trying to build a standalone company with all the risks, uncertainties, and additional capital that entails. This is especially true for certain deep tech startups that are developing innovative enabling technologies that do not have a direct path to market but instead require the reach of a larger OEM to access end markets and customers at scale.

Should founders also consider the macroeconomic environment and maybe sell before the next economic downturn?
Timing an exit is difficult because an M&A process typically takes around 6 to 9 months. The macro-environment has some level of influence on valuations, but for the deep tech companies Verve Ventures invests in, it is not overly important. Much more important for a founder is to have a good understanding of their market, including what is happening with their competitors and potential buyers. For example, if there are 5 good potential buyers for your company, and all of them have recently bought one of your competitors, then you could have a problem.