The tricks of buying and selling a startup

Irene and Keith Kendall founded Technosoft Solutions 23 years ago providing an integrated document management solution, growing it over time to be used by around 300 brokers and underwriters in New Zealand and Australia’s financial services sectors.

Irene continued running the Melbourne-based business after Keith retired and then, out of the blue, Javln came calling earlier this year, offering a buyout. 

Javln is a New Zealand cloud-based insurance policy management platform for brokers and underwriting agencies that has bought three companies in the past year – part of its strategy of organic growth and acquisition ahead of a potential ASX listing in late 2024 or early 2025. It’s still on the hunt for more that are the right fit and right price.

Founder Dale Smith, an Auckland accountant by training, had experience in rolling up companies in other sectors, including logistics, prior to setting up Javln in 2011.

Irene Kendall tells Caffeine she hadn’t been thinking of selling at that point but decided it was worth hearing what Smith had to say. The end result was a cash sale in July for an undisclosed amount, with Kendall remaining at the renamed business (now trading as OfficeTech By Javln) under a 12-month contract.

“It was a good outcome and a good experience. It has also been a positive outcome for my clients and team, and a lot of that was how Javln managed the process with me,” she says.

The biggest piece of advice she has for others weighing up being acquired is to be 100 percent sure you want to sell before proceeding, after seeking independent financial and legal advice.

“You can’t go down this route in a half-hearted way and expect a company like Javln to go through the process if you’re not committed. If you’re unsure about what you’re doing, the outcome will be different,” she says. “You have to support it with your team and clients, as if you’re negative, they will be too.”

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The incentives

Javln raised $7.24 million through Australian pre-IPO fund manager Bombora Investment Management in mid-2022 to accelerate its expansion. The SaaS company has annual revenue of around $10 million. 

Smith says startups should be thinking about acquisitions as part of their growth strategy once they hit a certain size but there are plenty of pitfalls if you don’t do it right. 

Mark Clare, founding partner of Wellington-based boutique investment bank Clare Capital, says acquisitions are becoming more common for startups in international markets but are less common in New Zealand.

“TradeWindow is an example of a listed earlier-stage tech business which has grown by making a range of acquisitions, so it is more common than it used to be. But at the same time, in the New Zealand market, it is not the default,” he says.

One of the challenges for a startup wanting to pursue a growth by acquisition strategy is that private equity and VC funders haven’t typically been comfortable funding M&A activity until a business gets to a later stage. 

“Once the company gets to that north of $10 million worth of annualised recurring revenue they’re more open to it, but at that earlier stage it’s unusual for parties to be able to have the capital for it,” says Clare.

Private equity and VC funders typically want to invest in a startup once it has grown to between $1 million and $2 million of annual recurring revenue, and they’re funding its organic growth rather than acquiring other businesses, which is a riskier way to expand.

According to overseas media reports, there has been a major rise in mixed deals (involving cash and shares) by startups looking to make acquisitions, as they can use their growing stock price to make a better offer than they could just using cash. 

But shares alone can be a hard sell, says Clare.

“You’re basically asking people to swap the majority position in a focus startup for a minority position in a bigger but still reasonably uncertain future.”

Smith says he’s used a mixture of shares and cash in his acquisitions so far; it’s a matter of horses for courses and largely depends on what the vendor wants from the deal.

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What to consider

Javln started as a data integration specialist and moved into insurance in 2016 after buying the underlying insurance platform it now leads with from Insoft. 

It has since also acquired insur-tech startup Jrny for an undisclosed amount in 2021, integrating its AI-driven decision-making customer engagement platform into Jvln’s digital products, which included allowing customers to get a quote and pay for policies online.

Then in mid-2023, it acquired the Underwriter Central and Insurance Connect businesses from Steadfast Group, followed the next month by the Technosoft deal. 

Smith says there were two key reasons for the acquisitions: one is to obtain technology on which Javln could build and the other is financial – to grow revenue.

“Then you use logical steps to combine the teams and make one plus one equal three – hopefully.”

Proper due diligence prior to purchase is an important first step, though in Javln’s case it also has to get any prospective deal approved by its governance board.

Any flaws or risk areas are usually exposed during due diligence and it then becomes a value call as to whether you proceed or if there needs to be an adjustment to value and a sit down with the founder to renegotiate – something Smith says he has done in the past.

Javln uses Digital Frontier Partners to help it assess any technology it’s acquiring, while the financials are investigated by its Australian lawyer Talbot Sayer.

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The cultural element

The key thing to remember in any acquisition is the people involved, says Smith, and he thinks Javln has done this well by sharing what’s happening throughout with current and newly acquired staff.

“It’s really important that you take people on the journey with you to make sure they understand the reasons you’re acquiring them and what the benefits are, what are the focus areas they need to be working on in the short, medium and long term. We’ve been able to work with those teams so they understand our culture and our values.”

That comes down to good, clear, regular communication including at executive level and filtering down through the layers of the organisation to ensure everyone understands what they need to do to get the result you’re seeking, says Smith.

You also need a clear plan of what you want to achieve from the deal – both financially and operationally – because it’s easy to get distracted.

“Organisations are successful usually for a core group of things that they do really well and it’s making sure you stay focussed on continuing to do those things really well during an acquisition and after so there is no value lost in the business you had to start with,” says Smith.

If the founder of a business you’re acquiring opts to stay on you need to ensure they’re comfortable in their new role and that you’re getting the best out of the organisation you’re acquiring.

“Irene [Kendall] was a willing seller and we were a willing buyer and she’s very professional and understands the value. We also understand the value she provides, so that works really well. What would never work well is a bigger business dictating terms to an already very successful business.”

Smith says acquisitions can be time-consuming; it typically takes four months to do a deal and then at least six months for an integration.

“But when they’re done they’re great, as long as you are clear on what outcomes you want, you get the communication right and you take everyone on the journey.”

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Getting acquired

Clare says once a startup has hit a certain size – towards $10 million in annual recurring revenue – it has a core that will continue operating even if the CEO is distracted by having to integrate an M&A deal. Doing it at an earlier stage can mean that if it all goes sideways, it could potentially “destroy the whole kit and caboodle”.

He says there are four key boxes an investor or an acquirer needs to tick off.

One is understanding the size of the company’s total addressable market or how big the prize is; the scale of revenue needs to be $1 million-plus with at least 100 percent year-on-year revenue growth, and the underlying unit economics need to be good. People are looking beneath the hood much more closely than they used to, with gross margin a key metric.

Clare says a number of US and European acquirers are looking to buy good New Zealand companies on favourable terms but one problem is Kiwi founders think those parties are doing them a favour.

“We see it all the time – they say ‘oh, we don’t want to piss them off, we want to treat them nicely’. That naïve attitude of New Zealand startups is one of the things that has to stop. The comment I always say is that no one gets what they deserve; they get what they negotiate.”

Kiwi founders think if they are really nice and invite the interested parties to a beer and BBQ that they will end up with a good deal.

“It’s a serious thing and it needs to be handled in the right way to achieve a high-quality outcome,” says Clare.“ Marry in haste, repent at leisure and it’s quite hard to get a divorce.”

Another common mistake is Kiwi startup founders often say ‘we don’t want to sell right now’ when approached by serious strategic players in their industry. But when they approach the same player later, the bigger company has since made another acquisition and are no longer interested.

“If a high-quality player in your industry comes and wants to have a conversation, you should have that conversation,” says Clare. Even if you don’t do a deal straight away it establishes a relationship that can be leveraged down the track.

An important consideration is who is approaching you and why – whether it is part of a strategic move or a purely financial one where the valuation may be less.

It also helps to get good advice on how to negotiate a deal and do due diligence on the other party, says Clare.

“There’s a famous joke from one of the American billionaires that ‘I don’t skimp on lawyers, accountants and helicopter pilots’.”

Getting the right sale and purchase agreement terms is vital, as is clarity on cultural integration – understanding your expectations and getting alignment on those so team members see the value in the deal and any earn-out component includes retention of key staff.

Clare recalls some years ago when, just after signing on the dotted line of an acquisition and celebrating with champagne, one of the three founders who had an 18-month earn-out included in the deal, walked to his computer and pushed go on a countdown clock.

“That was right on his desktop in full view and I remember at the time going ‘yeah, that’s not the sign anyone wants to see’.”

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