7 ms·

What happens when private equity buys your competitor?

62 points by ataussig 10y ago

vthallam 10y ago
It's definitely true to an extent that when the founders doesn't have any control or motivation, the outcome tend to be subpar. Also, the post highlights the obvious difference between PE and VC that PE mostly looks for min guarantee return and companies which are predictable to get them returns through either a sellout or IPO. What i wonder though is, why would founders in general go for this buyout(apart from the obvious reasons like money). Is there any reason companies are sold to PE investors in general?
- beat 10y ago
  One could certainly interpret a PE buyout as an "exit".
  - alistairSH 10y ago
    This was true with my employer. The first PE transaction was the owners/founders cashing out. The company was about 40 years old at the time (and the founders, while on the board, were no longer part of the executive team), so not quite the same as a start-up doing a PE deal.
- notahacker 10y ago
  Sometimes the most obvious reasons are obvious because they're the reasons. PE companies are quite happy to buy founders out and let them sit back or earn out. As another user has pointed out, that's essentially an exit. It's much more attractive to many founders than the VC offering them at best a 50/50 chance of cashing out in future once liquidation preferences are factored in and demanding much more performance, probably over a longer period, to get to that stage. Also, there are plenty of companies which are attractive to PE companies (profitable, steady growth which could be a bit faster) but not attractive to VCs (market is pretty well defined and never going to be huge) so the PE investors are the only ones approaching them.
ryandrake 10y ago
> Founders are special people who somehow glimpse a vision of the future that few others understand, and then go build it. Ughh, more founder-worship. What's more believable is that lots and lots of people can see glimpses of the future all around them. Out of that larger set, the ones that are lucky enough to have access to the capital and connections needed to start up and run a company are the ones that end up as "founders".
- gumby 10y ago
  Well, that's on a VC blog so it's a sales pitch do get people to pitch them. All businesses will tell you "we love you". Of course the entrepreneurs (founders or not) are not the customers, the LPs are.
- blazespin 10y ago
  Just curious, it sounds like you think this statement is either not true or just a coincidence: " In consumer technology, especially, there are very few success stories that don’t involve at least one founder in an active role. " My past experience is that it's actually pretty true. Some individual from the beginning of the company needs to be in an active role until a certain degree of maturity sets in. Sometimes they need to bring that guy back after he leaves and things fall apart. I've never done a statistical analysis though, so maybe I and the lightspeed guy are wrong.
  - ryandrake 10y ago
    I think for sure that company success requires engaged, future-seeing leaders with vision, taking an active role. My argument is that "founders" are not the sole possessors of such leadership qualities. The "founder" title has much more to do with one's access to capital and connections than one's intrinsic personal qualities or product judgment.
- ianbicking 10y ago
  It seems like it would be sufficient to say that not everyone has the ability to glimpse the future, envision a product given that, and initiate and direct the implementation of that product. Not everyone has that ability, but probably many do: however, in an established business with specific fiscal goals, how many people have the ability to do those things? Founders don't just bring some evidence of talent, they also have an authority and influence to make things happen that other people don't. Another way of thinking about it is that an established company typically does not have the ability to develop and empower that kind of person within the company. A founder precedes the company, and so is not constrained by the company in the same way.
padseeker 10y ago
So relevant info - I used to work at a Vista Equity owned company, one that was eventually sold to Oracle. Vista was run by a bunch of MBAs that believed that had the best insight on how a to run a software company, including what technology to use. We were evaluating better tools for version control as we had been using Subversion. We were seriously considering Git, Jira, and Github. Then Vista decided they knew what was best for all of their companies and decided it was Microsoft Team Foundation and Foundation Server. :/ I know Vista has had a lot of success but it certainly is not related to their ability to make technical decisions for the companies they own. They are succeeding in spite of this kind of decision making, not because of it.
- cpach 10y ago
  Wow. That’s pretty crazy.
- deleted 10y ago
  [deleted]
- dennyabraham 10y ago
  i had a very similar experience so i set up a git bridge for my part of engineering to use. it was not well-received by management, but it might be still running
  - padseeker 10y ago
    You worked at BigMachines too. I know you! That's impressive, the whole git bridge.
- deleted 10y ago
  [deleted]
- Sacho 10y ago
  > We were seriously considering Git, Jira, and Github. You were evaluating Git, Not VCS and Git? Looks like your decision was already made. It seems like you were looking for a project management tool as well, and TFS is both similar to subversion(easy transfer of knowledge) and fills that need. Why Vista's decision was obviously bad is not clear to me.
zellyn 10y ago
"Ping Identity, for instance, disclosed a 40% annual growth rate in its acquisition announcement. That’s below the average growth rate for a 9 year old public SaaS company" Wow. It's crazy that 40% annual growth can be considered too low.
- spullara 10y ago
  in that same paragraph the author says 15% quarter over quarter growth is slower but it is in fact 75% annualized growth.
  - ataussig 10y ago
    OP here. I should have been more clear. 15% is the most recent quarter vs the same quarter in the prior year. So it's an annualized number.
bigbossman 10y ago
If a PE shop buys your competitor, you should rejoice. PE firms primarily generate returns through (1) debt repayment from free cash flow, (2) multiple expansion, and (3) operating improvements. Because of #1, PE firms like annuity-like businesses with predictable cash flow. A ventured-backed startup doesn't need to worry about #1, and therefore can focus all their internal efforts on #3. (If multiples expand, then that's even better.) Here's an analogy. Venture-backed companies are busy building rockets, and rockets either take off or blow up. When PE takes over, your competitor has decided..."F this, let's go build a train instead."
- dmix 10y ago
  Why is "(1) debt repayment from free cash flow" appealing vs VC growth? I'm not familiar with that term. A quick search only gave me pages filled with even more finance jargon.
  - jldugger 10y ago
    Leveraged buyouts: you borrow a bunch of money, buy the company with it, use any stored cash to pay that down, and saddle the company with the debt you used to buy the company in the first place. Then you repeat this a couple of times to buy up portfolio of related companies that might be better together than competing, reshape them and put them back on the public market at a profit. Debt repayment from free cash flow is appealing because it's comparatively less risky. Startups building products have no free cash flow to speak of and require regular VC cash infusions to balance the books.
  - jessaustin 10y ago
    Before the buyout, the firm didn't have that debt! This scenario is a way of converting equity (which costs the firm nothing) to debt (which must be repaid). Of course VC deals can have debt too, but their goal is some sort of equity event, whereas this is almost the opposite of an IPO. The theory is that a PE will buy a firm with the revenue to support such debt payments, or that will have that revenue once the PE partners give it their special kind of love. Anecdotally, I must disagree with TFA's "...they rarely lose capital..." since the only company I ever worked for that got bought by PE ended up a giant loss.
dzink 10y ago
One aspect missed is that the government is getting juiced by leveraged PE deals, so a good chunk of PE returns are the tax deductions from the interest on the debt that gets split between debt issuers and PE firms. Why isn't everyone becoming a PE firm then? They did at some point in the 80s (re-watch Pretty Woman), when there was a plethora of private companies with lots of "fat" cash reserves on them and management that would rather spend that on private jets than return them to shareholders. Well-off corporate executives inspired PE activity. Well-off PE managers drained the market of cash cows and tightened corporate rules. The funny thing is in the real world, if you advertise how successful you are, you attract competitors, which is why I find it quite puzzling that the first thing startup founders do is advertise on TechCrunch when they've raised a big round. It's like saying "Look how much money is in that pot of gold over there, we are running for it." Does the value of the signalling increase the risks/damage from it? Would love to get your thoughts.
sl8r 10y ago
I think this is more about distributions than it is about expected values. If VC and PE generate roughly the same returns to their investors (say 20% to 25% IRR), what does this mean for the companies they invest in? Fred Wilson notes (http://avc.com/2009/03/what-is-a-good-venture-return/ http://avc.com/2009/03/what-is-a-good-venture-return/) that with a five year average horizon, he expects roughly three buckets of outcomes: 1. 1/3 of investments go to zero, i.e. blow up and lose substantially all of investors' money. 2. 1/3 return 1.0x to 1.5x (on average across the bucket). 3. 1/3 return 7.5x (on average across the bucket). That is wide distribution of outcomes. In PE, on the other hand, you'd get a much tighter distribution of outcomes around 2.7x returns. A single investment (much less 1/3) going to zero would destroy the fund, so PE funds want to prevent that from happening. The conclusion is that Vista is pretty sure it can get a 2.7x outcome or better, and it's also pretty sure it wont zero its investment. So should Ping's competitors rejoice after the Vista buyout? It really depends on how quickly they're growing and how much market share they think they can win. Do they believe that either [1] Vista will fail in 2.7x-ing Ping, or [2] they can succeed even in this 2.7x world? If they believe either of these things, then the buyout is probably good news for them; if they don't, then it's probably bad news for them.
mSparks 10y ago
I read this as "when PE buys your computer" made more sense the second time I read it.

62 points by ataussig 10y ago

It's definitely true to an extent that when the founders doesn't have any control or motivation, the outcome tend to be subpar. Also, the post highlights the obvious difference between PE and VC that PE mostly looks for min guarantee return and companies which are predictable to get them returns through either a sellout or IPO. What i wonder though is, why would founders in general go for this buyout(apart from the obvious reasons like money). Is there any reason companies are sold to PE investors in general?

beat 10y ago
One could certainly interpret a PE buyout as an "exit".
- alistairSH 10y ago
  This was true with my employer. The first PE transaction was the owners/founders cashing out. The company was about 40 years old at the time (and the founders, while on the board, were no longer part of the executive team), so not quite the same as a start-up doing a PE deal.
notahacker 10y ago
Sometimes the most obvious reasons are obvious because they're the reasons. PE companies are quite happy to buy founders out and let them sit back or earn out. As another user has pointed out, that's essentially an exit. It's much more attractive to many founders than the VC offering them at best a 50/50 chance of cashing out in future once liquidation preferences are factored in and demanding much more performance, probably over a longer period, to get to that stage. Also, there are plenty of companies which are attractive to PE companies (profitable, steady growth which could be a bit faster) but not attractive to VCs (market is pretty well defined and never going to be huge) so the PE investors are the only ones approaching them.

ryandrake 10y ago

> Founders are special people who somehow glimpse a vision of the future that few others understand, and then go build it. Ughh, more founder-worship. What's more believable is that lots and lots of people can see glimpses of the future all around them. Out of that larger set, the ones that are lucky enough to have access to the capital and connections needed to start up and run a company are the ones that end up as "founders".

gumby 10y ago
Well, that's on a VC blog so it's a sales pitch do get people to pitch them. All businesses will tell you "we love you". Of course the entrepreneurs (founders or not) are not the customers, the LPs are.
blazespin 10y ago
Just curious, it sounds like you think this statement is either not true or just a coincidence: " In consumer technology, especially, there are very few success stories that don’t involve at least one founder in an active role. " My past experience is that it's actually pretty true. Some individual from the beginning of the company needs to be in an active role until a certain degree of maturity sets in. Sometimes they need to bring that guy back after he leaves and things fall apart. I've never done a statistical analysis though, so maybe I and the lightspeed guy are wrong.
- ryandrake 10y ago
  I think for sure that company success requires engaged, future-seeing leaders with vision, taking an active role. My argument is that "founders" are not the sole possessors of such leadership qualities. The "founder" title has much more to do with one's access to capital and connections than one's intrinsic personal qualities or product judgment.
ianbicking 10y ago
It seems like it would be sufficient to say that not everyone has the ability to glimpse the future, envision a product given that, and initiate and direct the implementation of that product. Not everyone has that ability, but probably many do: however, in an established business with specific fiscal goals, how many people have the ability to do those things? Founders don't just bring some evidence of talent, they also have an authority and influence to make things happen that other people don't. Another way of thinking about it is that an established company typically does not have the ability to develop and empower that kind of person within the company. A founder precedes the company, and so is not constrained by the company in the same way.

padseeker 10y ago

So relevant info - I used to work at a Vista Equity owned company, one that was eventually sold to Oracle. Vista was run by a bunch of MBAs that believed that had the best insight on how a to run a software company, including what technology to use. We were evaluating better tools for version control as we had been using Subversion. We were seriously considering Git, Jira, and Github. Then Vista decided they knew what was best for all of their companies and decided it was Microsoft Team Foundation and Foundation Server. :/ I know Vista has had a lot of success but it certainly is not related to their ability to make technical decisions for the companies they own. They are succeeding in spite of this kind of decision making, not because of it.

cpach 10y ago
Wow. That’s pretty crazy.
deleted 10y ago
[deleted]
dennyabraham 10y ago
i had a very similar experience so i set up a git bridge for my part of engineering to use. it was not well-received by management, but it might be still running
- padseeker 10y ago
  You worked at BigMachines too. I know you! That's impressive, the whole git bridge.
deleted 10y ago
[deleted]
Sacho 10y ago
> We were seriously considering Git, Jira, and Github. You were evaluating Git, Not VCS and Git? Looks like your decision was already made. It seems like you were looking for a project management tool as well, and TFS is both similar to subversion(easy transfer of knowledge) and fills that need. Why Vista's decision was obviously bad is not clear to me.

zellyn 10y ago

"Ping Identity, for instance, disclosed a 40% annual growth rate in its acquisition announcement. That’s below the average growth rate for a 9 year old public SaaS company" Wow. It's crazy that 40% annual growth can be considered too low.

spullara 10y ago
in that same paragraph the author says 15% quarter over quarter growth is slower but it is in fact 75% annualized growth.
- ataussig 10y ago
  OP here. I should have been more clear. 15% is the most recent quarter vs the same quarter in the prior year. So it's an annualized number.

bigbossman 10y ago

If a PE shop buys your competitor, you should rejoice. PE firms primarily generate returns through (1) debt repayment from free cash flow, (2) multiple expansion, and (3) operating improvements. Because of #1, PE firms like annuity-like businesses with predictable cash flow. A ventured-backed startup doesn't need to worry about #1, and therefore can focus all their internal efforts on #3. (If multiples expand, then that's even better.) Here's an analogy. Venture-backed companies are busy building rockets, and rockets either take off or blow up. When PE takes over, your competitor has decided..."F this, let's go build a train instead."

dmix 10y ago
Why is "(1) debt repayment from free cash flow" appealing vs VC growth? I'm not familiar with that term. A quick search only gave me pages filled with even more finance jargon.
- jldugger 10y ago
  Leveraged buyouts: you borrow a bunch of money, buy the company with it, use any stored cash to pay that down, and saddle the company with the debt you used to buy the company in the first place. Then you repeat this a couple of times to buy up portfolio of related companies that might be better together than competing, reshape them and put them back on the public market at a profit. Debt repayment from free cash flow is appealing because it's comparatively less risky. Startups building products have no free cash flow to speak of and require regular VC cash infusions to balance the books.
- jessaustin 10y ago
  Before the buyout, the firm didn't have that debt! This scenario is a way of converting equity (which costs the firm nothing) to debt (which must be repaid). Of course VC deals can have debt too, but their goal is some sort of equity event, whereas this is almost the opposite of an IPO. The theory is that a PE will buy a firm with the revenue to support such debt payments, or that will have that revenue once the PE partners give it their special kind of love. Anecdotally, I must disagree with TFA's "...they rarely lose capital..." since the only company I ever worked for that got bought by PE ended up a giant loss.

dzink 10y ago

One aspect missed is that the government is getting juiced by leveraged PE deals, so a good chunk of PE returns are the tax deductions from the interest on the debt that gets split between debt issuers and PE firms. Why isn't everyone becoming a PE firm then? They did at some point in the 80s (re-watch Pretty Woman), when there was a plethora of private companies with lots of "fat" cash reserves on them and management that would rather spend that on private jets than return them to shareholders. Well-off corporate executives inspired PE activity. Well-off PE managers drained the market of cash cows and tightened corporate rules. The funny thing is in the real world, if you advertise how successful you are, you attract competitors, which is why I find it quite puzzling that the first thing startup founders do is advertise on TechCrunch when they've raised a big round. It's like saying "Look how much money is in that pot of gold over there, we are running for it." Does the value of the signalling increase the risks/damage from it? Would love to get your thoughts.

sl8r 10y ago

I think this is more about distributions than it is about expected values. If VC and PE generate roughly the same returns to their investors (say 20% to 25% IRR), what does this mean for the companies they invest in? Fred Wilson notes (http://avc.com/2009/03/what-is-a-good-venture-return/ http://avc.com/2009/03/what-is-a-good-venture-return/) that with a five year average horizon, he expects roughly three buckets of outcomes: 1. 1/3 of investments go to zero, i.e. blow up and lose substantially all of investors' money. 2. 1/3 return 1.0x to 1.5x (on average across the bucket). 3. 1/3 return 7.5x (on average across the bucket). That is wide distribution of outcomes. In PE, on the other hand, you'd get a much tighter distribution of outcomes around 2.7x returns. A single investment (much less 1/3) going to zero would destroy the fund, so PE funds want to prevent that from happening. The conclusion is that Vista is pretty sure it can get a 2.7x outcome or better, and it's also pretty sure it wont zero its investment. So should Ping's competitors rejoice after the Vista buyout? It really depends on how quickly they're growing and how much market share they think they can win. Do they believe that either [1] Vista will fail in 2.7x-ing Ping, or [2] they can succeed even in this 2.7x world? If they believe either of these things, then the buyout is probably good news for them; if they don't, then it's probably bad news for them.

mSparks 10y ago

I read this as "when PE buys your computer" made more sense the second time I read it.