Selling Your Tech Company

<b>Ready to monetize all that hard work and sell your company? Not if you haven't considered these pitfalls <br/> <br/>By George Takach</b> <br/> <br/>SO YOU WANT to sell your tech company. Congratulations. You've built a great business, and now some big potential buyers are circling. Rather than take your company public, you have decided to sell it to an interested buyer. You will then want to plow back the money you receive on the sale into several other new ventures you have in mind. Good on you. <br/> <br/>> A GOOD TIME TO SELL <br/> <br/>This is a fairly good time to sell. Many of the bigger tech companies have balance sheets with lots of cash on them. That doesn't mean they'll be imprudent, but it does mean they'll have an appetite and an ability to pay a fair price – and sometimes even more – for your business.
Selling Your Tech Company
Ready to monetize all that hard work and sell your company? Not if you haven't considered these pitfalls

By George Takach


SO YOU WANT to sell your tech company. Congratulations. You've built a great business, and now some big potential buyers are circling. Rather than take your company public, you have decided to sell it to an interested buyer. You will then want to plow back the money you receive on the sale into several other new ventures you have in mind. Good on you.

> A GOOD TIME TO SELL

This is a fairly good time to sell. Many of the bigger tech companies have balance sheets with lots of cash on them. That doesn't mean they'll be imprudent, but it does mean they'll have an appetite and an ability to pay a fair price – and sometimes even more – for your business.

They will not, however, just give you the money in return for your shares of the company (or for your company's assets) — and hence the discussion below about what to expect. But first, how to find the buyer willing to pay the best price for a private tech company (different considerations apply if you're trying to sell a public tech company).

> THE VALUE OF INVESTMENT BANKERS

You should strongly consider retaining an investment banker to help you sell your private tech company. You might think that, because you sold your used car on kijiji and your good friend raised a decent amount of money from pre-sales for his hot tech idea on Kickstarter, you can find an appropriate buyer for your tech company just as easily, including by connecting with prospective purchasers over the Internet.

I'm not saying that never happens, but rarely can you get the absolute best price for your company without generating an auction among a number of interested, experienced and well financed buyers. And that's what ibankers are good at. They will learn all about your business, create a detailed information memorandum that tells your story in its best light, and then, and this is the critical, they will get this memorandum in front of the relevant representatives at the serious buyers in a timely manner. If there's sufficient interest (and really good ibankers know how to create that interest), they will generate an auction mentality among the prospective buyers — often leading to bidding wars, all redounding to your benefit.

For sure, ibankers will generate a healthy fee for themselves. But you should run the math, mindful of how much more an ibanker typically generates by way of the sale price. In short, you shouldn't mind paying a reasonable percentage of the purchase price to someone who achieved for you a much larger purchase price — generally, you are much better off than trying to sell it yourself.

> TYPES OF BUYERS

Broadly speaking, there are two types of potential buyers the ibanker will bring to the auction: financial and strategic. The financial buyer is, as the name suggests, an entity like a private-equity fund: they are not in the tech space themselves; rather they are financiers that buy and sell tech-type companies (or buy several in the same sub-space and then sell them later as a combined, rationalized business).

A strategic buyer, on the other hand, is another technology company, and possibly even one in your particular vertical industry. Each of these two types of prospective buyers presents particular advantages, but also unique risks and challenges.

For instance, the financial buyer will likely not be as expert in your particular sub-sector, and so it may take them longer to do their due diligence. On the other hand, they may have more money to spend on a bid for your company.

The strategic buyer, by contrast, will likely know all about your industry. Indeed, they may be a long-standing competitor of yours. This presents some particular risks. For example, you don't want them poaching your people if the deal doesn't close.

> PRELIMINARY PAPERWORK

Apart from the engagement letter agreement you will have with your ibanker, you will need a non-disclosure agreement with each of the prospective buyers once the ibanker starts generating interest in your company. If they are strategic buyers, as noted above, you will want to add a provision preventing them from hiring your staff for some period of time (assuming they don't end up buying you).

Then comes the Letter of Intent (LOI). This is where the prospective buyer states they are very interested in buying you, they give you an indicative price, but they are not yet committed to the purchase because they need to learn much more about your company (through a process called “due diligence”) before they actually can agree to buy you. But the LOI is a good sign that they are sufficiently keen about you at this point and they don't want you walking away from them.

To prevent this from happening, the prospective buyer will invariably want a “no shop” clause in the LOI, which prevents you from trying to sell your company to anybody else for a period of time. The duration of this provision is highly negotiable, but will typically be between 30 and 60 days. Once you agree to the clause you cannot have similar discussions with anyone else. So you should not sign the LOI until you are comfortable that this particular buyer is serious about following through, and that you've picked a potential purchaser that can afford the purchase price easily (or at least readily).

> DUE DILIGENCE

After signing the LOI, the buyer will want to review all of your contracts, corporate records, intellectual property — just about everything you have by way of paper, electronic information, customer contracts, and then some. If there's a skeleton in your company's closet, they want to find it.

So, here's the thing. Ideally, in the years prior to the prospective sale of your company, you have managed it in a way that leaves it squeaky clean when it comes time to sell it. If you haven't, there's a risk that the purchaser may apply a discount at the last minute to pay for any deficiencies unearthed through the due diligence process.

> PROMISES, PROMISES

Assuming the buyer likes what they see during due diligence, they will present you with a draft share purchase agreement (or an asset purchase agreement if they propose to buy the assets). In either case, the core of the agreement for the acquisition will be a series of promises that you will make about the business (called representations and warranties). These will cover just about every aspect of the operations and financial condition of the company.

For example, the buyer will want a rep and warrant that your financial statements are accurate and comply with generally accepted accounting principles. They will want to know that your company owns all the intellectual property in your products (e.g., all the computer code in your software products). Or that your customer contracts are not in default. And on, and on.

The reason for all these reps and warrants is that, if one or more of these promises prove to be untrue, then the buyer is entitled (under the indemnity section of the purchase agreement) to claw back some of the purchase price you were paid (because the business you sold to the buyer turns out not to be as valuable as previously thought).

So, it is during the process of selling your tech company that you will find out how well you managed your business in the years leading up to the sale. Put another way, all the shortcomings (or shortcuts) of prior years will come back to haunt you during the divestiture process. The big lesson for those of you not quite ready to sell, therefore, is that there is still time to implement better management and commercial practices on a range of subjects, so that when you do come to sell your company, you can maximize the price people will pay you for it, and so that you can avoid any purchase-price-destroying “breach of rep and warrant” discount.

> NON-COMPETES

Assuming everything's all right, you are going to be paid a bunch of money for your company. Ideally this will be a sizeable amount, but however large or small, invariably the buyer will require you to sign a non-competition agreement as part of the deal, which will keep you from re-entering the market for some period of time.

These sorts of non-competes are enforced by courts, because without them the buyer would be quite vulnerable — they paid you all this money, and if you could simply start up another competing business the day after, the value of what the buyer purchased would be threatened.

On the other hand, the restrictions provided within non-competes can't be too long (rarely more than five years), and they can often be negotiated — not only in terms of duration, but also in terms of the scope of activities you will be restricted from pursuing. In California, for example, the home of Silicon Valley, these non-competes are rarely longer than 18 months.

And if the business you are selling is in some state-of-the-art e-commerce space, then even defining the parameters of the restriction can be a really difficult task. So, these non-competes deserve serious attention from you, especially if you will not be staying on with the buyer after you sell your tech company.

George Takach is a senior partner at McCarthy Tétrault LLP, the author of Computer Law, and an Adjunct Professor in Computer Law at Osgoode Hall Law School.