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— A VPA Perspective

Common Milestones That Lead SaaS Founders to Pursue a Transaction

  • Certain milestones in the life cycle of a business signal a founder may be well-poised for a transaction
  • How to determine where your business stands along those milestones

There are four main areas that create the impetus for founders to look at or start thinking about a transaction, namely:

  1. An inflection point in the business
  2. The changing dynamic of the business
  3. The founder’s wealth profile
  4. The company’s financial performance

Inflection point

At a certain scale, most founders find that the resources required to take their business to the next stage of growth outweigh the current resources on hand.

What resources do these firms lack? The most prominent are capital and experience.

From a capital standpoint, growth can be expensive. Many firms will not have access to enough capital or lines of credit to fully take advantage of opportunity without bringing in a financial sponsor to support that growth.

From an experience standpoint, founders at an inflection point often need additional support to round out areas where they or their management teams aren’t as strong, such as with:

  • Mergers & acquisitions
  • International expansion
  • Scaling the sales & marketing function
  • Building out a customer success function

A lot of the clients we represent have never grown businesses past 20/50/100 in ARR, and there are mistakes founders can make at that scale that can derail their journey.

For founders at an inflection point, pursuing a transaction can give access to both the capital and expertise necessary to grow to the next stage.

Dynamic of the business

As your business grows, the internal dynamic changes, and so will your role as a founder.

Founders are typically visionaries who love developing products and early stage companies. But when their company reaches a certain maturity, other areas in the business start pulling the founder away from their preferred responsibilities. HR issues, managing bigger teams, compensation structures, and other items increase in importance and start to take up more of a founder-CEO’s time and attention.

Adjusting to the evolving needs of an organization is necessary to move beyond a $10M ARR company to one generating $30-100M in ARR. But when a founder is no longer spending their time in the aspects of the business they are really excited about, that’s emotionally challenging. Founders may even feel ill-equipped to meet the needs at hand.

For founders in this situation, a natural segue to get back to the parts of the business that they love (or in some cases to exit entirely) is to pursue a transaction. That way, a new capital partner or strategic buyer can take care of the business building elements of the company, while the founder does more of what they enjoy.

Wealth profile

Another characteristic of founders is that they tend to be highly risk-seeking.

When a business is young, that risk-seeking behavior is natural and necessary. It’s easy to put it all on the line when what you have is worth a small amount relative to the opportunity.

But that dynamic changes when you build meaningful value in your business. As valuation grows from 30 to 40 to 100 to 200 million, founders begin to realize:

  1. They’ve built a wealth profile that is highly valuable
  2. All of their net worth is tied to the performance of a highly illiquid, high-risk asset

All people (founders included) are psychologically more sensitive to loss than gain. So as a company grows, founders tend to shift from being risk-seeking to risk-averse, and that shift can come at the expense of the business and its future growth.

When founders find themselves experiencing that mind shift (from growing wealth to preserving wealth), that’s often a signal that they should pursue a transaction. By doing so, a founder can sell the company in whole or in part to take some chips off the table and reinvigorate their risk tolerance for the next phase of growth.

Financial performance

Certain SaaS-specific KPIs are good indicators of when a founder might be well-poised for a transaction. If you’re clearing certain thresholds when it comes to ARR, growth, and retention, that essentially unlocks a universe of interested parties, both on the strategic buyer as well as the investor side.

The specific benchmarks for financial performance that you should be aiming for will depend on your vertical, but here is why each area is important.

From an ARR perspective, buyers will want to see that you’ve reached meaningful scale as this metric provides the backdrop for other metrics like growth and retention.

From a growth perspective, buyers will want to see that your company hasn’t stalled but has room to expand. The higher your growth, the more interest you can expect, though keep in mind that scale matters. A $100M ARR company growing at 25% looks more attractive than a $10M ARR company growing at the same rate.

From a retention perspective, you want to see that the revenue you generate from your pool of customers is growing year over year after taking into account churn, downsell, and upsell. The best situation to be in is to have your net revenue retention metric >100% (ideally 110-120%+).

The better you’re performing in these three metrics, the larger the pool of interested buyers and therefore the better positioned you are for a transaction.

How much lead time do you need to kick off a transaction?

When you feel the time is right to pursue a transaction, how quickly can you kick off that process? The answer largely depends on how organized you’ve been with maintaining data quality and tracking key metrics.

Most companies we represent at Vista Point don’t have a dedicated FP&A team, so usually the necessary metrics and underlying data quality to pursue a transaction just aren’t there. As such, part of our process of running a transaction is getting organized in areas like:

  • Key business metrics
  • Framing of customer data
  • Legal documentation
  • Tax history

Once the data is cleaned up and you’ve run all relevant analysis, we also take the time to build out the company’s Confidential Information Presentation (often called a "book", CIM, or CIP).

The amount of time it takes to get from zero to a launched deal depends on the company, but we’ve had processes where we were off to the races as early as 2 weeks. In most cases though, 3-5 weeks is the timeframe for getting everything in order and a process launched.

That said, there are a couple ways you can start preparing earlier:

  1. Start having conversations with banks. You can lean on their expertise to know what kinds of metrics you should be tracking and what data you need to have at hand.
  2. Take a close look at your second layer of management. If your goal is to step away from the business after a transaction, you’ll want to ensure you have a strong lieutenant layer of management to take up the banner.

Should we be thinking about the macro-environment when it comes to timing a transaction?

In our perspective, you should let your company’s financial performance and general performance dictate the appropriate time to sell your business, not the macro-economy.

Premium businesses will always sell for premium outcomes. If your company is firing on all cylinders against the backdrop of a poor market, then you still have a high likelihood of a good outcome.

Inversely, if your company’s financial performance is lackluster, even in a great market you can’t expect a great outcome.

Another way to think about this question: in a great market where everyone is doing well, realizing a great outcome can actually be harder because so many companies will be pursuing a transaction, so there will be a shortage of buyer demand relative to supply.

In a poor market, on the other hand, if your company is still doing well, you’ll be among a smaller pool of quality assets, and the demand to place capital in your company will be higher.

Deciding When to Sell

Knowing when to sell is a decision based on everything from the performance of the business to the founder’s emotional relationship with that business.

At the end of the day, you as the founder get to decide when the time is right, though a bank can certainly give you some insight on whether or not your company’s performance puts you in a good position to pursue a transaction.

To learn more, take a look at our article about key Saas metrics and how you should be measuring them.

Modified on Mar 22, 2023