Category Archives: Weekly musing

The end of GIFs?

Facebook acquires Giphy. Giphy is the software behind all the GIFs you use and love. Will this change how we use GIFs forever? Let’s explore! 

Giphy… what is it? 

Have you ever sent a GIF over WhatsApp? If so, you have used Giphy. Let me explain. 

Giphy has a huge library of searchable GIFs. When you search for a GIF in WhatsApp, you are actually sending the search to Giphy’s servers and they return the suggested GIFs. They integrate with Facebook, WhatsApp and Instagram — which together is 50% of their traffic.

Giphy’s business model is genius. It’s based around them giving away their searchable GIF library and in return they get nothing. You read that right. They. Don’t. Make. Any. Money. 

They have, however, raised ~$150M in venture capital, which has been fueling their expansion until now. 

Sounds like a great business — why did Facebook acquire them? 

Already on Facebook’s radar.

The two companies already worked closely together for a long time. Because of this, Facebook was comfortable acquiring them pre-revenue. 

Facebook pays $400M for Giphy. That’s a steep price for a company still to make any money. You might wonder — how did they decide on that price? Let’s break it down.

Pricing a company without revenue.

Typically, a company is valued on a multiple of its revenue. Obviously, this is not applicable for Giphy. Let’s dig a bit deeper.

Giphy’s most recent valuation was $600M and they raised $150M in total from investors. Facebook knew they wanted to pay somewhere in between those two numbers. Less than $600M since they knew Giphy had not performed as well as expected or had a hard time raising money. Remember, Facebook was their largest partner. However, more than $150M to ensure both investors and the founders would accept the deal. (If they paid less than $150M investors would lose money and founder would get nothing — that’s a hard sell.)

How they got to $400M exactly is impossible to tell. However, it’s probable they could have closed the deal for less. My best guess is that there was either other bidders, other mechanics we cannot see, or Facebook simply wanted to close quickly. Most probably a mix of all three. 

What does Facebook plan to do with Giphy?

I see three main reasons for Facebook to acquire them.

  1. They think they can monetize it. With more than 100 million active daily users on Giphy, Facebook is paying $4 per daily active user. Facebook’s ad revenue is ~$30/user annually and therefore it’s not a stretch to imagine they could squeeze out a few dollars for your eyeballs at Giphy, e.g., brands could pay for relevant sponsored GIFs to show up in your search. But if it’s that easy to monetize it, why has not Giphy already done so?
  2. Get valuable data outside of their main apps. Since Giphy is integrated with multiple apps, e.g. Slack and Microsoft Teams, it could help Facebook track the popularity of other platforms. Giphy, however, doesn’t get data on individual users. Facebook could only understand broad trends from the data. I’m unsure what other insights Facebook could draw from it and how valuable it actually is. Is it really valuable to know what GIFs are trending right now? (Famous last words)
  3. Defensive move. Giphy is popular on Facebook products. They want to acquire them before any competitors snatch them up.

My guess is a mix of (3) and the potential for a large upside were the main reasons. They might not crack the nut on how to monetize it, but if they do, it can be huge. If they don’t, the price they paid was small in the grand scheme of things.

How valuable is the data really?

How does this impact you? 

You might see worse GIFs on platforms outside of Facebook since other platforms might decide to stop using it. Depending on your dependency on GIFs, this might be the right time to panic.

Sincerely,
Henrik

Asymmetric risk and reward.

Risk, Reward, and Leverage

Every decision carries a risk and reward. This is true for both professional and personal decisions.

We all try to take decisions with large reward and little risk. Usually we end up optimizing for short term rewards since we are notoriously bad at thinking long term.

Leverage (investing money, building software, having a team work for you) amplifies the outcome, higher reward but also higher risk.

The search for asymmetry

Investing is to find a potential reward (profits from a company) and add leverage to it (money).

The one thing to avoid is asymmetric risk. The risk of a larger downfall than upside in the investment. One example is seasonality. It means that a business sells strongly during one time of the year and less during another, think ice cream truck.

It’s an asymmetric risk since one rainy summer can evaporate the entire income of the ice cream truck but good weather will never triple the sales.

When buying companies this risk is multiplied (we are adding leverage). While the ice cream truck might lose their entire business after a bad summer, you stand to lose your entire investment (which is typically larger than the businesses’ annual income).

Find these risks before investing.

Find asymmetric reward

Finding asymmetric rewards drives value. In the context of buying companies people often think about synergies.

One example is Disney’s acquisition of Marvel. Sure, they took a risk by buying a huge company like Marvel. They were, however, uniquely positioned to have an asymmetric return. Each film produced by Marvel generated a much higher return in Disney infrastructure than the sales of the movie itself. For each movie sold Disney also sold a toy or a ticket to one of their theme parks.

It’s hard

Finding leverage and asymmetric reward is hard. It always looks different.

What I have found works is to read about how others have done it, in my case about other acquisitions. It helps you build a mental checklist of what to look for. Find similar opportunities in your field.

History doesn’t repeat itself but it often rhymes

Thank you for reading,
Henrik

The ins and outs of Shopify’s acquisitions

Shopify — the love child of Canada

Shopify is Canada’s most famous tech. company based in Ottawa. They let anyone open up an online store to sell their goods. This simple concept have been successful beyond most investors wildest imagination.

As a merchant you get the benefit of a great looking online shop with shipping, marketing, and payments solutions delivered as plug-and-play. On top of that, you can customize your store through the Shopify app store where you find all types of functionality.

What companies have they acquired?

In these weekly musings we look at acquisitions and what we can learn from them. I found 10 companies in total Shopify acquired through its history. Let’s have a look at them and what type of acquisitions they were.

  1. Select Start Studios, 2012 — Talent acquisition of mobile engineers.
  2. Jet Cooper, 2013 — Talent acquisition of design talent.
  3. Kit, 2016 — Technology acquisition of top rated Shopify app for store owners to run Facebook and Google ads via text messages.
  4. Boltmade, 2016 — Talent acquisition of engineers and designers to work on Shopify Plus.
  5. Tiny Hearts, 2016 — Talent acquisition of engineers.
  6. Oberlo, 2017 — Product acquisition of Shopify app to import inventory directly from AliExpress.
  7. Return Magic, 2018 — Product acquisition of Shopify app to handle returns.
  8. Tictail, 2018 — Business and talent acquisition of online marketplace business to help Shopify merchants get increased reach.
  9. Handshake, 2019 — Business acquisition to expand customer and merchant base.
  10. 6 River Systems, 2019 — Product acquisition to improve fulfillment.

That’s quite a list — let’s try to break it down.

What does this tell us about Shopify’s business?

The list of acquisition tells us a story about how Shopify has evolved through different phases in their business.

Phase 1: This opportunity is huge and we need more people to meet the demand.

Their first 5 acquisitions up until 2016 were all, mainly, talent acquisitions. The need in the market for their product was still huge and they struggled to keep up with the demand. They acquired talent to accelerate their product roadmap.

Phase 2: There are obvious holes in the product we could fix to increase retention and average revenue per customer.

The next 2 acquisitions were both apps for Shopify. It seems they acquired them to quickly fill out missing features they wanted in their main product. Shopify could have built the same features in-house but acquisitions is the faster path. Also, copying popular apps and building them into the main product would have discouraged other Shopify app developers.

Phase 3: Need to keep expanding and organic growth has slightly stalled compared to earlier levels.

The following 2 acquisitions were both directed to acquire more customers in new markets. The organic growth might have stalled of and the product has all the major features wanted. For a good price it makes perfect sense to acquire more merchants onto Shopify.

Phase 4: Need to build deep defensibly and monetize other parts of the ecosystem. T

he latest acquisitions, 6 River Systems, shows how Shopify is moving into logistics. This tells us a few things.

  1. They see fulfillment and shipping as a competitive advantage they need to invest in (to compete with, e.g., Amazon).
  2. Earlier Shopify mainly made revenue form the merchants. Now, they want to earn a percentage of the shipping fees as well. That is, they have started to monetize other parts of the ecosystem to keep growing.

I would not have been surprised to see acquisition in the payments space either (which you can also monetize) but it seems Shopify decided to instead build it with their product Shop Pay.

How risky has their acquisition strategy been?

Shopify have managed to stay disciplined and overall taken on very low risk acquisitions. All the talent acquisitions are by definition smaller and does not come with a lot of risk.

Then, they moved into acquiring products in their own marketplace. They already know what their merchants want and went for it. Almost zero risk from a revenue point of view.

The last three acquisitions were all of larger size. However, they managed, once again, to minimize the risk. Shopify already had an offering to meet both the needs of small and larger merchants when they acquired Tictail and Handshake (the 2 eCommerce companies). Since Shopify knew they could meet the needs of all merchants, they did not take the risk to keep the acquired businesses. They only wanted to move over the merchants to Shopify. The question, then, boils down to the questions — “Can we migrate over enough merchants to Shopify to make money out of buying this business?”.

A similar analysis applies to 6 River Systems (the fulfillment company). Shopify already knew they wanted to get into fulfillment at this stage. They also knew how much volume was shipped and hence the potential revenue. The main risk was to understand the cost to integrate the company but given the strategic importance of shipping that almost becomes unimportant as well.

What’s next?

Right now, Shopify are focused on attracting more merchants and monetizing larger parts of the ecosystem but what’s after that?

Shopify is all about making it easier to start a business online but they have already started expanding into the physical world with their shipping capabilities. Another future opportunity is to expand into the physical world of merchants. What better way to enable more people to start a business than to provide them with manufacturing? A 3D printing company or similar business could be the next big opportunity for Shopify the coming years.

The only question I ask myself is how they would de-risk an opportunity like that, as they have done with their other acquisitions. I imagine they will either acquire a smaller company, partner with a third party, or build it on a small scale themselves first to understand what customers want. After that, they acquire a larger company when they know they have product market fit and want to move faster.

Either way, I am sure we will see interesting acquisitions from Shopify in the future.

Thanks for reading, if you have any questions feel free to send them over and I would be happy to explore 🤓

Sincerely,
Henrik

An incentive based guide to selling your company

Who do you contact to sell your company?

Sell side advisors are companies specialized in selling companies. They will help you find multiple potential buyers and advice you what to do in each step of the process. A sell side advisor uses their network of contacts and knowledge to support you. They tend to specialize in a specific geography or sector.

What should I expect if I want sell my company?

First of all, expect at least 6 months, probably more, of work to sell your company. It takes about 3 months on average to buy a smaller sized company. If you are on the sell side, however, there is preparation work as well, adding the additional 3 months. The overall process, if you use an advisor, is roughly:

  1. Contact sell side advisor and estimate what your company could approximately be sold for.
  2. Create a list of potential buyers, a 1 pager describing your company (anonymized), and a longer CIM (Confidential Information Memorandum) with more details on financials, team, and customers.
  3. Circulate the 1 pager to a broad set of potential buyers. Then circulate the CIM to the ones showing interest.
  4. Set up multiple calls with each potential buyer to walk them through financials, product, and get to know them.
  5. Start bidding process between buyers. They won’t know who the other potential buyers are or what they are offering.
  6. Decide on one offer, finish negotiations and sign term sheet.
  7. Conduct 3-4 week due diligence. The buyer gets access to all your data and ensures everything you told them is truthful.
  8. Sign papers and transfer money, given that everything looked good during the due diligence.

Puh, that is a lot of steps. If you sold your company without an advisor you could skip many of them. The process, however, is designed to get in as many potential bidders as possible and then increase the value as much as possible by utilizing the closed bid part at the end.

What are their incentives then?

When dealing with any business it is important to understand what their incentives are. Incentives influence our behavior and we tend to act according to them. Typically, sell side advisors receive two fees for their work.

1) Retainer Fees

Retainer Fees are paid on a monthly basis to advisors, independently if your business is actually sold. It’s a way for the advisor to be sure you are serious to sell your business. Obviously, you as a seller want to keep these small and keep the large incentive for the seller to the end.

2) Success Fees

Success fees are paid when your business is sold. Only your imagination sets the limits on how to structure them but there are four main ways of doing so:

a) Fixed fee — fixed amount on completion of the sale. Typically used when you already found a buyer and it’s easy to estimate the number of hours the advisor needs to put into the deal.

b) Flat percentage — flat percentage of the value the company is sold for. Aligns the advisor to sell the company for a higher price.

c) Scaled fee — also a percentage based fee but with the advisor receiving a lower percentage of each additional million they sell your business for. Incentives the advisor to reach a higher price but also prioritize speed.

d) Reverse scaled fee — also a percentage based fee but the advisor receives a higher percentage with increased sell price. This structure incentives the advisor to reach the maximum possible price.

How does that impact their behavior?

As promised, let’s explore how these incentives affect the behavior of the advisors. Note, of course most advisors are good people and will do what’s right but incentives still impact our behavior and it’s important to understand how.

1) They get less incentivized to spend time on deal as time passes since their retainer fee is usually paid fully after 12 months and they might understand at this point it will be hard to sell your business. No pay and a hard sell is not the cocktail that ignites hard work.

2a) They are incentivized to spend the minimum possible time on your case independent of the success fee structure. If an advisor can either find time to run 2 deals in parallel or spend more time on yours to get a 20% higher price, where’s the money do you think? Hint: It’s unlikely your business will double in value just because they double their time spent on it.

2b) They are incentivized to get a quick deal since it entails less time spent on the deal and time is money.

3) They are incentivized to accept the highest bid at the end. It is, however, up to you who you want to sell to. Do understand, thought, that an advisor is incentivized to lobby for the highest price and perhaps not the best fit for you.

4) They are incentivized to find large deals and spend their time on those. They way for a sell side advisor to get scale to their business is to pursue larger and larger deals. If they can do 2 deals for $100M each instead of 3 deals for $15M each they choose the former. Also, if they are working on selling your tiny $10M company and your impressive neighbor’s $100M company, all of a sudden it makes a whole lot of sense to give your neighbor a lot of time if they think it could increase the price by 10%.

Closing

This was apparently the week of long lists in this newsletter. At some point I will revisit this and explore how to approach this as a seller and buyer. In the meantime, you should be asking yourself how to align your incentives with the business partner you are working with.

Until next time! 👋

Look at that technology!

Let’s talk technology acquisitions!

I’ll be honest — technology acquisition may be my definition. I define it as an acquihire where you also buy a piece of technology, not intended for monetization. That means, you do not intend to (or it is unclear how) you make money from the technology directly.

If you only buy the technology, i.e. the team does not come along, it’s called an asset purchase.

How do companies acquire technology?

There are three ways for a company to acquire technology. They can either build it, pay a third party to provide it, or through a technology acquisition. Let’s explore more in detail.

1) Build the technology

It is expensive to build technology. Not only do you need to invest engineering time to build it but also to maintain it. On top of that, it’s in general slow to build. That said, you have full control to customize and change as you need.

A company aims to build unique technology that gives them an advantage over competitors.

2) Partner with a third party

For technology that’s not unique it’s usually advisable to pay a third party to provide it. Note that, technology that’s available to buy from a third party is, by definition, not unique since all competitors can buy it as well.You need to invest time to negotiate and integrate but this option is faster and cheaper than building, otherwise you are doing something wrong. Of course, you lose control to customize the technology.

3) Buy a company with the technology

When you buy a company with the technology the upfront investment in engineering time is skipped. You will, however, still pay for maintenance, integration, and of course the cost of negotiating the deal. You could expect to perhaps complete the deal in ~3 months and then invest, at least, ~3 months to onboard the team and integrate the technology.

Why acquire a company for technology?

If you read last weeks post you might remember that talent acquisitions are opportunistic in nature. The same is true for technology acquisitions. A company with a great business is too expensive to buy for the technology only (since we don’t intend to monetize it).

When to acquire a company for technology then? I think the question can be approached from three scenarios:

  1. You have already built the technology, do not acquire the company if their tech. is not significantly better.
  2. You don’t have the technology but it’s on the roadmap, this could be a great opportunity to accelerate your roadmap and also add talent needed in the organization. Consider acquisition.
  3. You don’t have the technology and it’s not/was never on the roadmap, you should probably not acquire. Why was it never on the roadmap? If no strong drive for people on your team to build the technology do you really think the right amount of resources will be staffed on the project once acquired?

Based on above, it seems like acquiring a company for technology does not often make sense. You are correct Madame.

Logically, most companies have built their technology in a vacuum from your business and therefore it will not be a great fit most of the time. (What is the odds they happened to build something on your roadmap?)

As with acquihires, technology acquisitions tends to happen through your own network of partners. Often, you already worked with the company or are in talks with to let them provide technology as a third party. For example, a company is providing a technology to you as a third part. They are still small and you see a potential in differentiating your business with their technology. Consider exploring the potential to acquire them if you also think the team is great.

How to evaluate?

Technology acquisitions are in general at least as much about the team as the technology. They are the ones who will drive it forward once in your company. Typically you want evaluate four areas before acquiring.

1) Team

The most important asset. You need to ensure the team can be successful in your organization. I wrote deeper on this in my last pst.

2) Technology

You need to understand the quality of the technology and assess how it would fit into your current solution landscape. You need to get dedicated time from an engineering team to conduct this analysis. If possible, try to estimate expected time to integrate the technology but don’t get lost in the details. Is is about understanding, on a high level, the cost of engineering time once the company is acquired.

3) Price

Since we are assessing a technology acquisition, i.e., we don’t expect to generate revenue directly from it, we need to approach the price from a cost perspective. What would it cost to get a similar team and technology without an acquisition? To understand this, you need to calculate the baseline for what it would cost to build the team and technology yourself and then also subtract integration costs if you proceed with acquisition.

[baseline price] = [cost of team] + [cost to build] – [cost to integrate]

Cost of team is what it would cost to recruit a similar team through an external recruiter. Easy to estimate with same method as for acuihires.

Cost to build is what it would cost you to build a good enough solution internally. Try to get an estimate by asking your engineers for estimated number of hours to build a good enought solution and multiple by cost of engineers. You can also estimate how much time the other company have invested into building their technology by estimating how many engineers they have and assume the worked full time on the technology. That number should be higher than what it would cost you to build a good enough solution (since they probably build things you don’t need) but it’s a good benchmark to test your assumptions against.

Cost to integrate is the cost to integrate the acquired technology. Try to get at least a guess from your own engineers how much time it will take. Remember, we are trying to get a ballpark number here.

Of course you may be willing to pay a premium for speed but without at least thinking through above you will not even know what that premium is.

4) Internal priority

Great acquisition dies in internal politics. Ensure there is interest in investing into the technology independently of the acquisition. You need to understand where in your organization the team will go. Talk with the leader and understand what their roadmap is. Ensure they are willing to invest.

Could you repeat all that in 10 seconds?

Look among your smaller technology providers if any of them could provide a competitive advantage to acquire.

Understand the soft dimensions, is the team great and would they be prioritized internally?

Get a baseline understanding for price to build internally. Use this when assessing if it makes financial sense.

Success.

Thanks for reading, if you have any questions feel free to send them over and I would be happy to explore.

Sincerely,

Henrik

Acquire that talent!

Let’s talk acquihires!

This week we explore acquihires — to buy a company for the talent. The acquired companies product and technology is discontinued and their customers helped to migrate of the product. Why buy a company and not use the technology they built or keep their paying customers?

Before we explore this question and acquihires in detail it is useful to first understand the different ways a company gets talent in the door.

How do companies hire?

Companies mainly hire through their HR department but there are two other tools available. The first one is to use an external recruiting firm and the second one, you guessed it, is to buy a company.

Probably 90%+ of all hiring is done through HR, <9% through recruitment firms, and <1% through acquihires.

Let’s understand the three methods in more detail.

1) Hire through HR

Let’s think about the cost of hiring by assuming one week of full time work is needed to find and interview one great candidate. Then, the cost can roughly be estimated to ~$4,000/hire assuming $200K cost/annually for an average employee. The cost numbers looks high for a European company but about right for a tech.-company in the US. This is anyway, by far, the cheapest way to hire.

2) Hire through a recruiter

Once again, let’s explore the cost. A recruitment firm is typically paid two to three monthly salaries for a successful hire. This means, with the same assumptions, you pay ~$50K for a hire, ~12 times more expensive than when you hire through the HR department. The premium is payed for speed and expertise. If the own department is understaffed or missing knowledge to interview for a specific role a recruiting firm can be used to quickly meet that need.

3)Hire by acquiring a company

The cost can be anything from free to paying multiple months of salary in retention bonuses plus money back to investors. Also, time needs to be invested from HR, M&A, and legal to execute on the deal. The main advantage of this method is the possibility to get an entire team at once, potentially with expertise you are missing in the organization.

By this comparison, it is not obvious why you would buy a company for hire. So why do it?

Why buy a company for talent?

Firstly, acquihires are opportunistic by nature. You cannot afford to buy a great team that also has a great business, it would be prohibitively expensive. What you want is a great team that has built a great product but unfortunately has not found enough traction for a viable business. Since it is opportunistic by nature, it will never be your main recruiting strategy.

Therefore, the reason to buy a company for talent is simply that the opportunity presents itself. Typically, the opportunity will present itself through a connection in your network. Seldom will you see these opportunities from a banker since it is not enough money involved for it to be worth their time.

What to think about when acquhiring

While the financial piece is important in an acquihire, it is far more important to assess the people. The majority of your brainpower should be spent on how to retain the team once acquired. This means that you need to find a place in your organization where the team would enjoy to work in the long run.

That said, I typically think through three areas when assessing an acquihire.

1) Talent assessment

Do they possess skills you need in your organization? You would waste a lot of talent if you acquired a bookbinder when you sell e-books. Asses the skills for each employee and understand where they fit in your organization. Ask the executive team if the individuals would thrive in those positions. Ensure you can take most of the employees with you and that you can match their salaries.

Will they enjoy working at your company and stay for the long term? Explore broader questions, such as: How similar is the work culture? How long did they stay at their previous company? What motivates them?

2) Company price

What do you need to pay for the company? This all comes down to negotiation but to get a benchmark you need to do add up the total annual salaries and then take 20% of that. You would pay a recruiter that much to hire a similar team. Of course, through a recruiter you would hire individuals, now you have the chance to hire an entire team. A team could be more valuable but this basic analysis can ground your thinking on price.

3) Deal Complexity

Do a sanity check regarding how complex you expect the deal to be. It is not worth you time to spend months negotiating term sheets. Better move on and find the next great opportunity. Things to look for: Is the executive team excited about this opportunity? What are the most important points for owners and the executive team, and do you think you can meet them?

If your assessment in these three areas is positive that is a sign to progress with the deal. The next step is to create an offer, present it to the owner, and negotiate but that is for another week.

To acquire or to not acquire…

What does acquisition mean?

Acquisition means different things in different contexts. What I focus on in this blog is the context of buying companies. A good definition can be found in Oxfords English Dictionary.

An act of purchase of one company by another.

Why does a company acquire other ones?

There is an infinite list of reasons why a company acquires another one but the most common are:

  1. To acquire hard to get talent: One of the surest ways to get acquired, today, is to have a couple of really good ML engineers on the team and send Google or Facebook an email. This type of acquisition is called an acquihire.
  2. Get your hands on a piece of technology: Perhaps another company is struggling to sell a cool piece of technology they built. There is, however, an opportunity to use their technology to meet a strategic goal for your company. Great opportunity for an acquisition! Facebook is a good example of a company who has acquired a lot of companies to build out their video infastructure and analytics technology.
  3. Acquire a product your customer wants: This is similar to a technology acquisition with the difference of acquiring a customer facing product, i.e., the product should generate revenue. In this case you would want to build a basic business case to ensure the financials ad up. Typically called a product acquisition.
  4. To grow your business: This is the most complex acquisition and usually the riskiest one. While a product acquisition could be cheap an acquisition to grow your business is almost always by definition expensive. The reason is that the acquisition has to be large enough to materially impact the revenue of your business and therefore typically expensive. Making such a large bet requires extensive analysis.

Keep in mind that a company can reach goals through, and usually does, other means than acquisitions.

  • Instead of buying a company with talent money could be invested into hiring.
  • Instead of buying a company for a product money could be invested into either build it or deliver it through a partnership.

I’ll try to keep writing small nuggets of wisdom each week. Let me know if you have any questions and I’ll be happy to explore them.