Across the globe, financial transactions have trended upward. In 2021, international merger and acquisition (M&A) activity increased significantly, eclipsing $5 trillion in deal volume for the first time in history, growing 64% over the previous year.
I’ve worked at startups, private equity firms and high-growth companies, handling acquisitions as both the acquirer and target. In virtually every scenario, each transaction had distinct requirements and needs based on unique factors associated with each deal. But underlying these differences were a few critical similarities with respect to acquired-side financials.
If being acquired is a goal for your company, consider the following key elements to establish the best possible financial operations in support of a potential transaction.
Hire the right people
Whatever acquisition route you seek, it’s important to consider the outcome of the transaction — all money is not created equal.
Like most aspects of building a company, success largely depends on the quality of the team. The financial operations of a business are no different. Defining clear roles for financial management and hiring experienced staff in this space often makes the difference between a 10x valuation and a 20x valuation when negotiating deal terms.
The level and title of the financial management role will naturally vary based on the stage and end goal of the business. Early-stage startups, for example, may not need a CFO. Instead, a strong COO and experienced controller tend to provide adequate structure and oversight in that first phase.
The decision to initially forego a CFO may also be a function of budget and/or company aspirations. For companies seeking to maintain a small team, say less than 250 people, a CFO may unintentionally create a top-heavy leadership culture, in addition to being an expensive hire. However, if a company is looking to scale and is thinking about its growth path, the CFO position is a critical role.
In an M&A context, the acquirer also plays a role. If targeting a Fortune 100 company, for example, a formal, experienced financial team led by a CFO is highly desired, if not outright required.
Whatever the role, having an experienced financial professional in place from the outset can be essential for a smooth transaction. I believe a financial professional should be one of the first hires in any enterprise, equal in importance to technical and product talent, as this team member will determine the organization’s position at the negotiation table when exploring an acquisition.
Create a financial structure
That first hire will be responsible for building the organization’s financial foundation — which tools are used, establishing protocols, creating financial reports and more. That financial structure will be largely dependent on the organization’s aspirations for growth and the type of acquirer it hopes to ultimately attract.
Many startups, for example, rely on spreadsheets to track finances. While perhaps operationally effective, a spreadsheet system lacks financial controls that established acquirers expect of their target organizations. Spreadsheets are revisable, meaning numbers can be easily adjusted, which presents significant risks to financial controls. Alternatively, a more established system managed by a financial tool provides built-in protection against risk associated with accounting practices.
There are a number of tools that provide value and are largely dependent on the stage of an organization’s growth. Most small businesses choose accounting software platforms suited for small and midsized businesses, which provide ample structure to manage a business in the $1 million to $50 million range. This approach often provides enough structure when targeting the vast majority of acquirers. However, if an IPO is the end goal, these platforms will not suffice, as a number of controls and financial operating procedures are necessary to operate in the public markets.
More established organizations — those with hundreds of employees and tens of millions in sales — will benefit from formal enterprise resource planning (ERP) systems. Progressing to ERP from midrange accounting software platforms requires business process frameworks established by an experienced expert in creating a financial structure for a complex, growing organization.
The importance of building a solid financial structure must not be underestimated. It provides credibility and puts the target company in a stronger negotiating position. It also highly influences valuation, as an organization will be valued differently based on various financial factors, and understanding and accurately representing this information is critical.
For example, this financial structure allows the potential target company to showcase recurring revenue versus one-time revenue, EBITDA and cash-flow adjustments, which may result in a 2x difference in valuation. Put another way, aspiring tech companies that forego establishing a formal financial system are putting the credibility of their multiple at risk when it comes time to negotiate.
Understand your risk profile
An organization’s risk profile changes as it grows. What becomes a reasonable tolerance for error changes as an enterprise expands, but the likelihood of human mistakes increases as a business grows. Therefore, financial operations and risk management practices must adjust accordingly. Protecting your physical and intellectual assets should be a top priority and part of your corporate culture.
When seeking to be acquired, a company’s risk profile must be evaluated across the entire organization, with a particular emphasis on user authentication and security. Numerous compliance requirements govern different geographic markets (GDPR, for example), so if a target company fails to consider security as part of its risk profile, it will almost certainly surface as a problem for the acquirer.
Know your acquirer
At the end of the day, what is necessary will almost entirely depend on the acquirer. Whether the buyer is a financial institution, venture capital firm, private equity fund or Fortune 500 company, each will have a different set of expectations and requirements for evaluating an organization.
Moreover, each potential acquirer will bring to the table a different tolerance for the state of the business. By nature, each caters to different maturity levels of a business. Seed-stage VC firms, for example, tend to have a low bar for financials because of the early stage of the businesses they target. A growth PE firm, however, will expect projections and an established financial operation. Conversely, financial institutions fully expect a formal structure accompanied by a full balance sheet, P&L, and, at minimum, submission to a formal audit review. This ensures the acquirer that money is being appropriately handled within the organization.
The presentation of financials also depends on who receives the presentation. Recurring revenue is highly attractive to PE and institutional investors, with monthly recurring revenue (MRR) and annual recurring revenue (ARR) often in the spotlight as desirable acquiring attributes.
In the end, strategy and storytelling are just as important as financial metrics. The numbers on the page are only as good as the context surrounding them. How you share the narrative — from the financial story to the market opportunity and company successes — will influence the acquirer and the final deal.
Whatever acquisition route you seek, it’s important to consider the outcome of the transaction. All money is not created equal. Ultimately, the acquirer you choose will have a strong influence on your business as a whole, from corporate culture to employee retention, in addition to your financial operations.
Finding the right fit that values the business you’ve built, shares your vision and will dedicate the right resources to help the organization grow and scale will make all the difference in securing the fate of the business as it embarks on this new phase.