What we learned from getting acquired by Meteor

In June 2015, our consulting company Percolate Studio was acquired by Meteor Development Group, maker of the popular open source Javascript framework called Meteor. In December 2016, we left to start Chroma, our new product company.

This is Part 1 in a series of posts where I reflect upon the lessons learnt from the acquisition and tales of life at a Silicon Valley startup.

Why

Everyone has their own reasons for entering into an acquisition ranging from a successful cash exit to saving a company on life support. Our goal at Percolate was to transition from a services to a product company within 5 years. In order to succeed, we needed to learn about Saas business development, figuring out product market fit and building startups in general. Being acquired by Meteor and learning these skills first hand was a natural shortcut towards our own product aspirations. We’re also long time Meteor users (we built a consulting business around it) and believe Meteor or something like it is the future of web app development.

Suddenly giving up control and adjusting to the culture of someone else’s company can be a jarring experience. I still remember that first day, being ‘onboarded’ and sitting at my new desk feeling like a fish out of water. I couldn’t help but wonder whether we’d made a huge mistake giving up everything we’d worked so hard to build. It’s hard to adjust to becoming an employee — where a check arrives every two weeks and there’s little direct existential pressure to succeed. To mitigate this, I redefined personal success based on whether I was learning the skills I’d set out to learn at the beginning of the acquisition as opposed to the financial success of the company, over which I now had minimal control.

The Percolate team is really close knit — we play, work and adventure together so keeping the team intact was hugely important to us. We learnt that despite everyone’s best intentions this can be a big challenge to do in practice because businesses evolve leading to individuals (rightly) being pulled in different directions according to what’s best for the company at the time.

Arriving at a valuation

As any naive Silicon Valley-ite would, I thought we’d struck it rich when we got the phone call. It was a Friday afternoon and I was riding the SF-Oakland ferry, gazing back at the cityscape and looking forward to the frosty brew I was about to enjoy. Just then, Matt — one the founders of Meteor — called to ask the question: How would we feel about selling Percolate and joining the Meteor team?

During the next two months of negotiations, we learned that the myth of a $1M+ per employee valuation even for an acquihire is not a magic, one-size-fits all number.

It’s a poorly kept secret that in SV, a lot of highly price acquihires are really quid-pro-quo deals between VC firms to make each other’s failed investments sound better on paper, and to help founder’s egos. At the end of the day, they don’t tend to make anyone rich

Naturally, the buyer will negotiate hard for the best deal and your company will be valued based on factors like how much VC funding you’ve raised, product revenue, engineering team size and services revenue. This was also when we learned that small, profitable services businesses aren’t worth much on paper. Their modest margins scale linearly at best — it’s not possible to bullishly extrapolate exponential growth with high margins years into the future to arrive at a nice plump valuation.

The mechanics of the sale end up being fairly simple. The acquirer will get all of the stock of your company thus ending up with the assets, ip and business entity. In return, you’ll receive some combination of cash, stock and options. Both sides will need to engage lawyers and accountants to negotiate what can be quite a complicated transaction. Be warned, this will cost more than you probably think so ensure the deal includes enough cash to at least cover these costs.

Getting a seat at the cap table

If you’re selling to a startup, especially a young one without much/any revenue like Meteor was at the time, chances are the founders will be extremely reluctant to reduce their runway by giving you cash. Expect to receive equity. Realize that this means you need to evaluate the value of the company and it’s chances of success just like an investor would.

Make sure you negotiate for stock rather than options.

Stock implies that you actually own a piece of a company. Options, on the other hand, will need to be bought and converted to stock, can’t be relied upon to work out in your favor if there’s an acquisition, and typically have an exercise period upon termination of employment. The stock you receive will most likely be ‘common stock’. I won’t dive into the full details but in a nutshell this type of stock has less favorable liquidation terms than say ‘preferred stock’ which investors hold. This is totally fine with one caveat — look through the shareholder agreement in the unlikely case you’ve been issued a class of stock with egregious terms. The other benefit of stock vs options is that as a shareholder the company has certain obligations to you for instance around financial disclosure (check the shareholder agreement). Beyond being interesting, this information may help you evaluate when is a good time to buy your options if you have them.

As a new employee, you’ll probably be offered options in addition to the stock you may have received for the sale of your company. Negotiate for more than the ridiculous three month termination exercise period you get with standard Incentive Stock Options (ISOs). Try to estimate how far the company is from a liquidity event and use that as a time horizon. This way, you’ll have a chance to wait and see whether your options are likely to be worth anything before shelling out real dollars for them. You’ll also avoid feeling trapped at the company while you wait for a strong enough signal that it’s worth exercising the options.

Location Matters

Thanks to a historical oddity, Percolate Studio was incorporated in Australia. Once we began doing regular business in the US we also incorporated a US sister company. Little did we know at the time, this multinational setup made the details of the acquisition way more complicated and time consuming than they would have been if we just had a US corporation. Of course, I’m not qualified to provide financial advice, but incorporating in the US if you have the chance may make you more palatable to a future acquirer.

Part II

When we joined, Meteor had the most starred open source project on Github with $0 revenue on their balance sheet. In part II of this series I’ll go into detail on how we successfully monetized the framework and increased the number of quality open source contributions.

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