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Startups Acquiring Startups: An Essential Catalyst For Growth

Illustration of M&A block letters.

By Nick Adams

By nearly every measure, 2021 was an astounding year for venture capital and tech startups. While VC mega rounds, massive IPOs and SPACs may have dominated the headlines, tech M&A transactions increased by more than 30 percent from 2020 and deal value increased more than 50 percent to nearly $900 billion.

Buried in the back pages of the 2021 VC annals was the steep rise in venture-backed startups acquiring other venture-backed startups. Last year there were 527 such acquisitions; up 90 percent and 50 percent over 2020 and 2019, respectively, according to a Crunchbase data query. Since acquisitive tailwinds extend beyond the typical growth opportunity or talent acquisition play, this trend will remain an essential catalyst to the health of the overall startup ecosystem.

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Here are the factors contributing to M&A growth among startups:

Profiles of investors has broadened

Nick Adams of Differential Ventures
Nick Adams of Differential Ventures

Micro and nano VC funds, angel investors, family offices and corporate investors have different return profiles than massive VC funds, which makes smaller exits more viable.

What VCs never acknowledge out loud, for fear of emitting even a whiff of being not founder-friendly, is that the old Sand Hill Road adage of “we invest early and hold until the IPO” is extinct.

Explosive growth in M&A, SPACs and secondary transactions have created an abundance of liquidity opportunities for early investors and startup teams not previously available in the startup ecosystem.

Abundance of capital in late stage

IPO and M&A markets set records during 2021 and, as a result, potential valuations at the time of an exit reached historical highs, emboldening later-stage VC-backed companies to raise more capital than was previously considered prudent prior to an IPO. As a result, there are currently 1,200-plus unicorns worldwide, including 64 decacorns and three hectocorns (>$100 billion), many of which have raised hundreds of millions of dollars of capital. It is extremely difficult to organically grow into these valuations, so M&A is an appealing option to maintain growth.

Recruiting and retaining talent is extremely competitive

Startups have always competed with big companies for high-performing employees, but the explosive growth in demand for engineers, abnormally high turnover caused by the Great Resignation, and astronomical salaries being offered by tech giants has escalated the competition into an all-out brawl.

Late-stage startups have turned to lucrative acquisition offers that create meaningful liquidity opportunities for founders to onboard talent.

So, what can early-stage founders do to put themselves in an advantageous position for a lucrative acquisition offer?

First, I recommend treating other companies in your ecosystem—even those that may have some competitive overlap—as potential partners. You don’t have to hand over the entire playbook, but talking can usually open more doors than it closes.

Second, approach executives of late-stage startups in your ecosystem about investing in your company. This is an effective way to gain additional mentorship and enable you to take your time getting to know one another prior to jumping into M&A conversations.

Third, put your VCs and investors to work to help build your network of contacts in larger companies and constantly explore opportunities for sales and partnerships. The right set of investors can support you almost like a part-time corporate development team and may even be able to advise you like an investment banker during an acquisition courtship.

Finally, reflect on your business and personal motivations regularly and with extreme candor. Not every startup is going to exit for $10 billion. Sometimes that means doubling and tripling down to go for the IPO, and other times it means knowing when you have a productive outcome for you and your investors.

Nick Adams is the co-founder and managing partner of New York-based seed fund Differential Ventures. Previously, Adams was a venture partner at, f.k.a. Flatiron Investors, where he evaluated seed-stage tech companies and led the due diligence for multiple investments.

em>Illustration: Dom Guzman

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