This year, Ukrainian-born scaleup Grammarly wants to expand its suite of productivity tools beyond its well-known writing assistant. One way it plans to do this is by acquiring them.
In December, it announced the acquisition of Coda — a smaller startup valued at $1.4bn, compared to Grammarly’s $13bn. The plan is to integrate the tech behind Coda’s collaboration and productivity tools to offer new and better products for Grammarly customers.
This is what’s known as a 'bolt-on acquisition' — where one company acquires a smaller competitor to boost its own growth.
Lots of startups do it. Italian unicorn Bending Spoons has made a number of acquisitions, including buying WeTransfer, Hopin and Meetup this year alone. Micromobility company Bolt has also been implementing an M&A strategy.
“Startups and scaleups, their whole raison d’etre is growth,” says Alexandra Wyatt, vice president in J.P. Morgan’s Innovation Economy team. “And one of the ways they can do that is through M&A.”
So how can startups use bolt-on acquisitions to boost growth? And how can they get ready to put this strategy into action? We asked the team at J.P. Morgan to explain.
1/ What are the benefits of a bolt-on acquisition?
Bolt-on acquisitions can expand a company’s customer base, help it reach entirely new geographies or boost revenues by adding a new product or tech capabilities. But you need to know which of those things you want to do before you go sniffing out targets, says Wyatt: “Being really clear on your upfront goals is crucial in terms of completing a successful acquisition.”
Ultimately, any successful acquisition is determined by how well it aligns with the startup’s goals
Even before an acquisition has been made, it’s important to determine what success would look like.
“If you’re buying the company to acquire some specific technology or product, for example, looking at whether the acquisition has led to an increase in revenue is important, and that could be through expanded customer bases, cross-selling opportunities and new market access,” explains Wyatt. “Ultimately, any successful acquisition is determined by how well it aligns with the startup’s goals, while also thinking about the value it creates.”
2/ Finding — and analysing — your targets
Once you know what you want to achieve, you can start mapping the market.
Most founders will already have a good understanding of their ecosystem, and know their competitors and key players in adjacent markets, but speaking to investors, networking at conferences and more general market research will make sure no stone is left unturned. Specialist advisors — consultants, banks and lawyers — can also help with this task.
Beyond business characteristics and acquisition rationale, it’s important to analyse unit economics and financials
Before starting initial discussions, it’s important to have a clear idea of the high-level information you need to assess the target.
“Beyond business characteristics and acquisition rationale, it’s important to analyse unit economics and financials,” says Marjolaine Basuiau, vice president in the Tech Investment Banking team at J.P. Morgan. “And metrics depend on the industry you’re looking at, too.”
The important things to know about an internet company, for example, are its daily or monthly active users, brand awareness and customer acquisition costs. For a software company, metrics like Annual Recurring Revenue (ARR), Net Revenue Retention (NRR) and cross- and up-selling opportunities come into play.
3/ Understand the risks
From overpaying to culture clashes, M&A isn’t risk free. “The minute you make an acquisition be prepared to be asked about that a lot by investors,” says Wyatt, who warns: “I have seen instances where unsuccessful acquisitions have impacted the company’s ability to raise further capital.”
Once an acquisition is in motion, a detailed integration plan will be needed. And it’s important to think about a plan before the offer is made, says Basuiau.
“It will impact your offer,” she says. “For example on the IT front, you might want to migrate the platform of the acquired business to your tech stack. This will cost money and could take more time than expected.”
Professional advisors are crucial for making sure due diligence is carried out thoroughly, and that any red flags are identified along the way.
It’s also important to think about how the company you’re acquiring will merge with the culture of your own. Basuiau warns that cultural misalignment can lead to huge, and potentially costly, challenges down the line.
“You could have two companies in two very different countries, which are just not working the same way and it’s very difficult to integrate,” she says. “So think carefully about how you are as an organisation, what you stand for and if that resonates with the other company you are acquiring.”
4/ Think about the financing and value creation
The rewards of getting a bolt-on acquisition right, though, can be significant.
Operational savings might be found by combining offices and streamlining supply chains, for example, while revenue growth could be supercharged by not only gaining a new customer base, but also cross-selling your products to theirs and vice versa.
Ideally, you will have an external valuation benchmark from having raised from an outside investor
Pieter Himpe, managing director in the Tech Investment Banking team at J.P. Morgan, says there are a few rules of thumb to get to a pricing starting point, emphasising that growth and profitability are key value drivers. A legacy software with low growth might be valued at low to mid-single digit revenue multiple, whereas a high-growth software could achieve a valuation of 10-20x revenue, depending on its profitability levels. You’ll also need to make sure you have the means to go through with an offer. Cash — from a previous financing round, debt or revenue generated by the business — or equity are the most common ways to pay. If you’re going with the latter, you’ll need a recent valuation to show the seller how much your stock is worth.
“Ideally, you will have an external valuation benchmark from having raised from an outside investor,” says Himpe.
While thorough due diligence will come later in the process, the information above — along with your top-level plan for creating value after the deal — is what will guide the price you will pay. In other words, it’s an opportunity to think about “how you can innovate so one plus one is three”, says Himpe.
