Merisis Advisors

When Acquisition Deals Go Wrong

August 23, 2023

Fintech

Press

The unfolding of the startup ecosystem has not only put India on the global map, it has brought international trends to India. India's startups are today offering products and services at par with their global counterparts and the way they run their businesses is also becoming more and more streamlined like evolved ecosystems. One such global trend that has played out in India in the last few years is the increasing number of acquisitions, i.e, takeover of one company by another.

Acquisitions often come in as a win-win for both the seller and the buyer. While the former opts to be acquired for reasons like lack of scalability beyond a point or to give an exit to the current investors, the latter is usually interested in the product or technology of the company. For the buyer, it is an easier route to expand rather than building new products and technology from scratch.

Image source: Bain & Company

Today, acquisitions have also come in as a rescue measure for many startups that have been on the verge of shutting down due to global downturn-induced funding winter. However, there is a twist to this tale. Today, many acquisitions are going awry because of buyers and sellers getting into nasty quarrels.

Some cases in point are:

Last month, Tiger Global-backed healthtech platform Pristyn Care reportedly suspended Rahul Narang and Saurabh Arora, the founders of Lybrate, a day after they served a default notice demanding outstanding payment resulting from the acquisition of their company. This came almost 12 months after the acquisition.
According to a news report, edtech startup Classplus is facing a lawsuit in the Delhi High Court along with three police complaints. It was reported that the co-founder of Saarthi Techpro has filed the lawsuit and police complaint with a long list of serious allegations which raises concerns over cheating, extortion, criminal breach of trust, mental harassment, defamation, theft of immovable property, misappropriation of funds and some more.

In some cases, the acquisition talks go on for a prolonged period as well. For instance, in March this year, PhonePe called off the acquisition of Buy Now Pay Later (BNPL) startup Zestmoney after months of due diligence. The fintech major was in talks to acquire Zestmoney for $200-$300 million since November 2022.

Common reasons behind the tussle

Before getting into reasons, it is imperative to note that an acquisition is meant to create more value for both parties and there are a number of reasons behind an acquisition. "Ranging from forward and backward integration, enhancing profit margins, to extending supplementary services, the benefits are many," Surabhi Sanyukta, VP investments, BlackSoil tells us, while adding an example.

When a wallet business plans to foray into the lending business, it may acquire an established fintech lending entity with an existing infrastructure, customer base and experience. This will allow the wallet company to optimize its resources and operations and focus on product innovation and expansion. The company being considered for acquisition may serve as a gateway to new markets or aid in propelling growth to the next level.

"This is particularly beneficial when the company is financially constrained, but its products or services have already gained a foothold," she adds.

And, now the common reasons behind the mishaps:

Hastiness: Sanyukta believes that instances wherein post-acquisition endeavors have often faltered result from hastily executed acquisitions lacking meticulous financial due diligence, resulting in subsequent irregularities.

Differences in expectations: The misunderstandings mostly result from differences in expectations from the acquisition by both parties. "In such cases, the value of the company somewhat drops in the mind of the buyer once he/she has achieved their objective. The seller, as a result, feels aggrieved after some time and differences start creeping in," says Fazal Ahad, managing director, Merisis Advisors.

Changing market dynamics: The acquisitions going wrong is also due to the changing business environment. The changing market dynamics impact deal terms, throwing up unexpected surprises post-agreement. "In most cases, the acquisition discussion started when the market conditions were in a bull run and everything was looking good from funding and potential market. The companies were looking for market expansion and to increase product basket and one of the ways they were opting for was inorganic expansion. However, the situation has changed in the last few months and the deal terms which were signed may not be good considering current market dynamics," says Anil Joshi, Managing Partner, Unicorn India Ventures.

Delayed due diligence: In some cases, the due diligence may be the reason as it starts post negotiation and the acquiring company may not be satisfied with what was offered or promised.

Delayed funding support: "In many cases, the acquisition may be backed by potential investment by existing or new investors, however considering the current funding situation some of the deals may have fallen due to funding either getting delayed or not happening altogether," says Joshi.

A not so well-thought-out plan?

The crucial question here is how and why startups sometimes miss out on the basic due diligence when going in for something as big as an acquisition. Does this mean both parties do not have a well-thought-out plan before going ahead with the deal? Or, is it really a complex process, considering the fact that the startup ecosystem in India is still evolving and these occurrences are part of the overall growth trajectory?

"It wouldn't be a fair assessment to say that companies don't think through the process, however, the final acquisition is dependent on several factors and the deal culmination is a factor of satisfactory due diligence. In most cases, the companies don't factor in untoward situations and become victims of the same. It impacts mostly the acquiring company as in the process to get the deal closed they land up losing focus on their performance matrix and also their own cash flow," says Joshi.

Is shutting a way out?

It is said that if the existing outcome of the standalone venture is not as envisioned, it is better to shut it down and focus on a new beginning. However, experts also feel that the founders are the best judge of this. "They know it better if they can pull through the tough market conditions or be able to manage their cash flow before they get the next round of funding or before getting that one big order that can change the course of the business. Though it is easy to comment on shutting the business if things are not working, it is difficult for the founders who have given everything to make it happen. However, if things are not working then it is better to call the end," says Joshi.

It is also important to note that not all acquisitions are rescue acquisitions. "The sellers should go ahead with an M&A transaction only after considering all pros and cons of the transaction. They need to be very careful while negotiating and agreeing to the terms of the transaction, especially for their future stay (and future payment/milestone-based payments)," says Ahad.

What buyers and sellers should keep in mind

Experts say that it is more for the buyer to think through the acquisition and integration of the acquired company before the transaction. But the seller also needs to be clear about his or her future plan and the time he/she wants to spend with the company post-acquisition.

Ahad feels that an investment banking team is absolutely required to negotiate the terms of the deal on behalf of the buyer so that the buyer's interests are taken care of in the long run. "It can to a certain extent also help in giving a short-term and long-term view to the buyer, their employees, investors, and vendors. There are several companies that have done this well and elevated the acquiring company owners to co-founders or create a separate entity to focus on the business better," he says.

Startups should also ensure thorough due diligence and precise valuation. "Ensuring a successful acquisition involves developing a carefully crafted integration plan, followed by diligent execution. Keeping the existing founders actively involved throughout the acquisition process and in the new merged entity is recommended as it preserves their vested interest in the enterprise," says Sanyukta.

Founders of the companies that are getting acquired should also be prepared for any eventuality. This is because there is always a probability the deal may not happen even after complying with all the conditions. "In such a situation the founders should ensure that their IP and business intelligence are protected and may also factor in fall out cost which can be pre-decided and kept in an escrow account. So that if a deal doesn't happen then the founders can encash the same and use it for the lost time and opportunity," says Joshi.

Mergers and Acquisitions (M&A) experts also suggest that the speed of deal-making should be faster. This is because sometimes, by the time the acquiring company says no to going forward with the deal, it is too late for the startup. Hence, if they have to say no then do it quickly so that the startup can focus on rebuilding their company, says Joshi.

The buyers on their part need to be clear about what they want from the company they are acquiring. "It is always good for them to discuss the future plan and future role of the selling founders in detail. Founders of the selling company can be huge assets to the buyers. And if the buyer thinks so, they should work out a structure to ensure that the selling founders are aligned with them in taking the company forward," says Ahad.

Furthermore, transparency and communication are two critical aspects of any acquisition transaction. Both parties should ensure that everything is communicated clearly.

Summing up, here are 6 things that both parties should keep in mind before going in for an acquisition deal: