As we continue our series of articles from IBIS Capital director Tim Merel, this month he starts a two-part look at the subject of selling a company.
Here in part one he examines the questions that anybody thinking of cashing in should ask themselves before setting the wheels in motion, while next month he'll look into the process itself and give you a step-by-step guide.
Part One - Is it the Right Time to Sell Up?
Ngmoco is the most recent in a string of headline-grabbing online and mobile games deals in the last year, each with an apparently more stratospheric exit multiple (price as a multiple of revenue or operating profit) than the next - Playfish, Tapulous, Playdom anyone?
The perception of a valuation gold rush means that independent games companies across the spectrum are asking me to help them sell their companies now, or are shouting "Buy my company now!" to the major console, media, online/mobile games and private equity firms I also work with.
For high quality companies in high-growth game sectors (casual/social online, iPhone/iPad/smartphone, browser-based MMO, online/smartphone/tablet middleware), there is some logic to this. After all, why not try to take advantage of a perception of scarcity in early stage, high growth markets instead of the hard work of company building?
Yet reality can be quite different. I have recently seen a great online games company being advised to rush its exit process at a full (but not crazy) exit multiple, only to have that process fall over due to buyer concern that acquiring at high multiples today will be seen as consolidating too early and be spanked by the market.
I have also seen console independents going to market with expectations that they will see the sorts of valuations of the headline grabbing deals, based on excitement about growth in online and mobile. Maybe someone will do these deals because of strategic and operational value, but they will need to be brave.
So before you set out your stall and spend a lot of time and money trying to cash in your chips, I thought it might be worth giving you some rules of thumb to help you along the way (or help you decide to continue building your business instead). This will be set out in two parts. This first covers your decision to sell your company, with the second setting out how to actually go about doing so.
Why do you want to sell your company?
Do you really need to sell?
You wouldn't be reading this unless you were thinking about selling your games company, but please pause until you've exhausted all other possibilities. Selling companies is a difficult, painful and slow process. There are no guarantees that you will successfully sell your company on reasonable terms, or at all.
More sale processes fail than succeed, and many entrepreneurs end up not realising the full value of their business. You may be better off spending the next 6 to 12 months growing your business instead of focusing on selling it. You won't want to hear it now, but not selling may be your best option.
If you want to sell your company, then clearly you will be able to say why now is the right time. It sounds obvious, but buyers tend to suspect that you are selling because you know something that they don't. This is even more important when the market is volatile, your market is still at an early stage, and valuations are generally full. You need to be able to address their fears.
Can you sell your company?
You may not want to hear it, but many companies can't be sold even if inherently sound. There are no specific rules, but the criteria which are more likely to excite a potential buyer are:
- Potential market greater than $1 billion
- Potential company revenue greater than $100 million
- Product meets a clear customer need
- Sustainable competitive advantage (your company does something better than the competition that matters to customers)
- Management team has relevant industry experience
- Wholly-owned intellectual property protected
- Scalable business model (as your revenues grow, your profit margin increases)
- Not highly capital intensive (unless scalable)
- Not highly people intensive (unless scalable)
For trade buyers:
- Strategic advantage from your company for their business
- IRR (Internal Rate of Return, which is the discount rate at which the net present value of cashflows from and to investors equals zero) greater than 20 per cent
- Operating margin (operating profit/revenue) greater than 20 per cent
For private equity firms:
- Clear buyers for exit within five years, without reliance on IPO (Initial Public Offering of your shares)
- At least two years' track record of profitability with operating margin greater than 20 per cent
- IRR greater than 30 per cent
- 3-5x money multiple (multiple of original investment that an investor receives on exit)