M&A from a CFO's Perspective Session 2

22:57In the early dating period, the target gives you some great presentation. Here's our numbers. Here's our financial model. Here's our new products. Here's what we're doing. And based on that, we build a financial model and we say, okay, based on all that, here's, we think the value is X. Well, it turns out in due diligence, one of the numbers given in that presentation that drove the financial model wasn't exactly accurate. Maybe it's the word. It made some shit up. it was the this is the number without the bad stuff once that was discovered it fundamentally changed our financial model and we came back and said look we need to talk about price because this is wrong and they're like no no no we gave you a number it just these one-time events or these non-recurring events or whatever we're not oh i actually go back to get the original presentation another thing i'll tell you store everything the lawyers need everything anyway store everything.

23:49When I got the original presentation, highlighted it, took a big arrow down to it and said, that's the number you gave us. There's no asterisk. There's no footnote on the slide. That's the number you gave us. It's a true story. In this deal, they said, fine, we're walking away. We're going back to the airport. See you later. And I went, can I call you an Uber? They went back, they got on the plane, they flew home. And by the time they landed, they called back and said, so what would it take to get this deal done? But that's a great example, due diligence, you're going to find things. We found in one of our transactions, a tax issue in due diligence.

24:20When I said negotiating around it, I set up a separate reserve. There's a tax issue. They were in dispute on some of their taxes. They said, of course, our advisors say, we're going to fix this for this many dollars. Our advisors said, that may be true, or it could be this big. And we said, okay, we're going to set up a reserve. And if it's this big, fine, we'll cover it in the purchase price. If it goes above that, then it's coming out of the hole back. They're negotiating points. Just back to what you said earlier, you're hitting the key points. If you do due diligence well, you can figure out where the risks are.

24:49If you figure out where the risks are, you can start to put either human beings or contract terms, whatever the case may be. But you got to know why you're doing the transaction. You got to know what the financial assumptions are around the transaction. And you have to know all that due diligence stuff around those items. There's five things that we found in due diligence that we're like, yeah, okay, fine. Not core to the premise of why we're doing this transaction. Do I wish I would have known? Sure, now I know. Not enough to go negotiate pennies. But if it's key and core to why you're doing the deal or why you're pricing the deal the way you are, you got to be willing to figure those things out.

25:22Yeah, you got to get out there. Going back to the CEO relationship, you use that phrase, arbitrator of truth. Do you end up having like a good cop, bad cop relationship with the CEO and you? Because I can easily see that happening. No, it's more like the godfather than good cop, bad cop. You're Tom Hayden. You're the consulary. Okay, fair enough. Look, in the end, it's the CEO's call. It's his or her call to override it, to overlook it, or whatever. You just want to make sure that they walk in all the time with the correct maximum amount of information. We're talking about M &A, but what does a CFO do in general inside of a corporation?

25:56They are not responsible for a line operating division. So they're not building products. They're not selling products. They're not marketing products. They're not supporting products. They're running the financial picture. And what are numbers? Numbers are unbiased representations of what's going on at the company at any given second. The CFO's job by its very nature is you're across the whole company. What is going on? What is going on? X six syllable words that are BS. Numbers don't lie. When I was on Wall Street, my boss used to say, Sam, numbers don't lie. Management teams, eh. And so that's your job as CFO.

26:35in general is to be an arbiter around what is actually happening at the company. And then being a representation of that, weighing in on the deal. So I take it you're involved at the deal from the beginning. Yeah, you should be. Are you talking to the management team? A lot of times, I know the CEO is going to have conversations with the other CEO, get some general, yeah, we're interested in talking. Are you a part of that? Was the NDA get signed? And then we get a bunch of financials and say, hey, Sam, I should just take a look at this deal. How does that play out? So there's a bunch of like your lawyers and your advisors will tell you.

27:09There's a bunch of gates. Like once you start signing things, certain set of legal ramifications start occurring. Once you sign the NDA, once you sign the LOI, once you sign the actual terms of deal, et cetera, et cetera. Let's talk about how we source deals. Three ways to source deals. CEO finds it. He's at the run-of-the-mill cocktail party and other CEO approaches him and says, hey, we should merge our two companies. Oh, okay. B, BizDev is out prowling, doing whatever BizDev does, the other cocktail parties. They're out there trying to figure that out. Or C, your investment bankers come to you with an idea.

27:42At some point past that first thing, CFO should be involved. He or she may not be directly involved. I usually assign someone from my FP &A team. Once we get to the, hmm, should we do this? You're on the deal. Build me a model. Start a running spreadsheet on what the assumptions are. What are we talking about? And then once the first sort of presentations come along, the CEO and CFO need to be in constant communications. Because what will happen is, at all the big presentations, obviously the CFO is there. But the CEOs will have conversations and the CFO needs to get a readout on all those conversations.

28:15It doesn't need to be in the room. I just need to text. Hey, talk to someone, John Smith. He says blank and blank. Because you need to keep your CEO at work. That's BS. Let me tell you the real numbers. He's making stuff up. There's all that kind of stuff. Awesome. You're going to be excited. We don't have a CFO right now. We're only 50 heads in the company. So look, what I would tell you is in general, at some point, you need advice for the finance and or a CFO. And the thing you tell that CFO is, look, your job is to get the books, get them accurate, read out to the board and read out to investors, do all the other stuff.

28:46Sure, that's your day job. But your job between you and me is you're the arbiter of truth. You're running the numbers. You're deep in the numbers. When I was CFO, it's actually one of the things I've lost a little bit becoming CEO. When I was CFO, I knew so many numbers like the back of my hand because you live in it every day. And once you become CEO, one of the hardest things about becoming CEO is what I call context switching. I sit in a meeting and I'm meeting with the product folks. 59 minutes later, I'm meeting with sales. 59 minutes later, I'm meeting with support. 59 minutes later, I'm on the phone with our top channel partners.

29:1759 minutes later, I'm on the phone with an upset customer. 59 minutes later, I'm on the phone with a prospect trying to close them to become a customer. I'm constantly context switching these meetings. CFO, you're in the numbers model. What's happening? Where are we going? What are we doing? Salesforce dashboard, etc. Your job is to do that for the CEO. We have a meeting every week that we call Course in Speed. That's run by the CFO. What is our course? What is our speed? You own that. As your meeting, it is probably the most important meeting. How do you tie into strategy in terms of like wrapping your head and really understanding the strategy?

29:49And how do you do that? As a CEO, you have a strategy, some vision around the product, the customers, the markets that you participate in. I'm going to guess for a second your business. So you sell primarily to business development people, investment banks, law firms, etc. And so you've got some sort of vision that we want to capture big law firms and then go to little law firms or big investments. I can make this up all day long. But you have some strategy in your head. And what your CFO then needs to say, is it working? Is it not working? What's happening, etc. The thing the CFO doesn't do is they don't help you get the right people on the bus and get them in the right seat.

30:24They may interview them. They may be a second voice in the room. That's really your job. And they're not setting that vision. Where do you want to be in a company? And too frequently where I see CEOs make mistakes is they view the outcome as the vision. I think you're a private company. So you want a$5 billion valuation. I would tell you that's a stupid vision. We want 10 ,000 customers paying us$10 ,000 a month and 100 customers paying us a million dollars a month. And here's how we're going to get there. And that in turn at this assumption leads to a$5 billion valuation. It's the customers, where are they, what are they doing, where are they, that's the vision.

30:58Because that in turn drives the actual actions each one of the departments takes. One of the things I would like to do is, and I've said this publicly, is I have 65 scrum teams currently working on our contact center product. The contact center market, I think, is a$40 billion market opportunity. To go after a $40 billion market opportunity, I want over 100 scrum teams. So the thing that keeps me awake is trying to figure out how to get from 65 scrum teams to 100 scrum teams. Why did we do the fuse transaction? Because I picked up 20 scrum teams. And I was able to pay for it by sizing and getting their business correctly structured.

31:31That's the strategy. Where I've got a CFO is when I say, okay, how do we do this? What are all the ideas on the board? And one of them is obviously grow revenues organically or grow revenues through acquisition. That's where they come in. They help me execute that. But they help me execute the strategy away from BS. I've seen too many times in my career where blah, blah, blah, blah, blah, blah, blah, blah, blah. And the numbers don't match. The numbers have to match. And remember, the CFO doesn't have an operating role, per se. They don't have a dog in the fight. They don't have a department to protect.

32:04They don't have a claim to protect. They don't have any of those things. So the example you gave with market opportunity in the contact software side, the CFO is pretty much getting as lined as the CEO on it. But they're bringing this whole other perspective. Almost like you said, here's this little thesis that we're going after this$40 billion market. But what does that actually mean? And then you start breaking it down into some clearer metrics of what's obtainable to get there. I want to go after that. Okay, what needs to happen the next 90 days, 180 days, 270 days, 365 days? And from a KPI perspective, FP &A team, CFO team, go figure that out.

32:40So it's really a partnership. It has to be. being a CEO, look, I can always speak of being a CEO of a public traded company, I've been a public traded company for a number of years. The job is too big for one human being. If you go to a four-star general in the army, they have a huge staff. They have a staff measured in hundreds. These jobs are too big for one human being to do it all themselves. So I believe sports is a great analogy for business. But playing soccer, you can't play soccer by yourself. It's 11 people per side. That's the analogy. If you're the CEO and you're not looking around and saying, I've got 10 teammates here to help me win this game.

33:16You're just the team captain today. Really good point. The other thing I wanted to get your perspective on is I think a budgeting and a few different components. Here's overall M &A deal itself. Is that budgeted ahead of time that we're allocating X capital to do deals? After that, I want to click down into how do you think about the integration budgeting? So this gets into why you're doing the deal. So I think there's three types of M &A transactions. And I've mentioned it. There's a product, service, either a product extension, a technology. I'm a technology guy, a software guy. So there's us tucking in a set of technology that we need, etc.

33:51But we're buying the technology. There's buying customers. Oracle does this exceptionally well. They have a tendency more to buy customers than buy technology. AT &T, Verizon, the wireless guys, Comcast, those are usually customer acquisitions. and then you have a transformational transaction. You're doing something because you need to fundamentally change the tone and tenor of the business. You're not messing with your product portfolio. You're not messing with your customer portfolio. You're changing something radical. Let's throw a transformational out because I don't think I would ever do one, but let's just say for a second.

34:25So when you go to a product acquisition, the decision you're making is make versus buy. Why am I acquiring this? Why am I not building it in-house? And I can give you 10 parameters. One of the big ones are, do we have the talent to build it in-house? Do I have to go acquire the talent? Is there a time to market here? So let's say I need to build a new product. That product is slightly outside of our core competency. We need to hire design teams, etc. And we're not going to get a product in market for a year. And our customers are asking for it now. I don't have a year to go figure that out. If you're Cisco, you're like, look, we have to invest in too many product categories as the market leader.

35:00And so we're going to let Sand Hill Road invest in dozens of product categories. And then some are going to be winners. And we're just going to go pay up for those. and will actually come out ahead because we would have invested in all the other stuff, even paying up for the market leaders. On customers, I can acquire customers through my marketing and sales organizations at a certain rate, a certain customer acquisition cost, etc. Or I can buy customers in the open market. Okay. So when you talk about budgeting, the way I look at it is M &A is an extension of what we're doing. Do I budget? Okay, we need to spend$10 to buy a company.

35:36No. Let's say I'm going to go back to technology acquisitions. I was going to spend$10 in R &D to build product XYZ. I'm now acquiring it. So therefore, I don't need to spend$10 on my own R &D anymore. So technology acquisitions, product acquisitions are an extension of the R &D line of the income statement. A customer acquisition is the extension of the sales and marketing line. So no. Do I budget M &A separately? No. I look at it and purely say from a... I can do it one way, I can do it the other way. What's the most... You can see in my framework where the CFO plays a peripheral role. What is our current customer acquisition cost?

36:09What does it cost to acquire risk-adjusted through M &A? Figure this shit out. In terms of just planning for a year in the company of, hey, roughly, let's think about how much we could spend on acquisitions for which of those strategies. No. No? No. I was going to say, is it just the go happy lucky CEO that finds shiny things and I want to buy this and then we got to build a case around it? We're continuously looking for acquisitions. continuously. And I have a low stock price now and I'm still looking at acquisitions. It's an engine. I'm continuously looking for acquisitions. Now, go back to the big five.

36:42When I have a low stock price, is it better to acquire another company because everything is on a per share basis? So if I acquire another company, I can grow revenues on a per share basis or I buy back my stock, which grows revenue on a per share basis. So at any given minute, I can be looking at acquiring another company or I can be looking at acquiring 8x8, which trades in the open market with low integration risk. It's the same to me as we do sales and marketing every day. We do R &D every day. We do M &A prospecting every day. The difference is, depending on the big five, the hurdle rate of the likelihood of doing a deal.

37:16You trade at a really high valuation, you're more likely to do a deal because your cost of capital is very low. And so it's better to acquire than it is to buy back stock. It's impossible to do a budget because every day the stock price is changing. Every day, your R &D picture is changing. And so it just needs to be core in what the business is doing every day. It's an ongoing conversation. It's an ongoing conversation. At any given time, we have four to six potential transactions we're investigating. Let's go to the live deal. We find something we want to buy. We started the pricing considerations around it.

37:50How do you think through budgeting around it? I think this is a dilemma that comes up where first-time acquirers don't really budget integration. And I noticed more mature M &A becomes for a company, they start putting way more weight on integration and budgeting for integration? Heck yeah. That's the CFO's job. The CFO's job is to say, that's the risk adjustment. What's it going to cost for me? Not only what's the cost of the advisors and what's the cost of capital, but what's the cost of, do we need outside parties to help us? Let me give you a simple example. Every company we've acquired, I've hired anyone from two to six contractors to go through every one of their procurement contracts.

38:25Just day one, as soon as the deal closes, meet the six folks. They're going through every one of your contracts. I need to know, are the supplier overlap? What's the price you're paying relative to our benchmarks, etc.? Day one. Those are all things that the CFO should naturally have in his back pocket as budgeted items. Do we need an integration partner? Do we need service providers? Do we need contractors? Do we need etc.? And that goes into the deal price. The deal price is not... I'll use a startup example. $100 in revenue times 5x price-to-sales ratio, I'm paying$500. No, I'm paying$500 to buy their equity.

39:03Okay, now I need to add$50 million,$20 million, whatever, integration costs. The total price I'm paying is$520 million. What's$520 million relative to taking that money and doing something else with it? You can see my framework as you ask these great questions, how the CFO plays this integral role in adding all that up for the company. because they're not going to look at it and say, Oh my God, I want to do this deal because I get 20 more salespeople. Or, Oh my dear, I want to do this deal because I get 50 more engineers. They don't care about any of that stuff. Oh my God, I do this deal because I get more cash flow per share.

39:35Is there anybody else you collaborate deeply with than the CEO? I don't know if you have a dedicated M &A person or... We do. I collaborate extensively with my investment bankers, my BD person. I'm a collaborative person by nature. Our BD guy that we use is awesome. But I've been like, Hey, I think maybe we should do this deal. you're going to have to forgive me what I'm about to say, but our BD person's a little randy to use the British term. But more than once he said to me, Sam, what type of crack pipe? This thing has more hair on it. No, I've wasted enough time that you make me do due diligence around this.

40:08But no, we're not going to do this to you. You'll have a nice day. You need to collaborate deeply. And then you need your BD person to know what the corporate strategy is so that you can get creative. One of the things I pride myself on is we have the ability to get creative. M &A is not just company A buying company B. What about strategic partnerships? What about minority investments? What about joint ventures? What about NRE? What about all kinds of things? There are lots of transactions that have started as we want to buy you and it's ended with, listen, we're going to partner. And if this thing works, then we'll buy you.

40:44And we've added a paragraph into the partnership agreement that says, we'll buy you at this valuation if this partnership works. Any other advice? Someone doing first-time acquisition? I'm going to repeat what I said earlier. So the advice is the price you pay and can you operationalize it? It's two most important things. And the price you pay has to be relative to the other decisions you can make with your capital. Too frequently, and I blame CEOs for this, too frequently, we become enamored like kids at Christmas with acquiring a company and what we can do with it. And I fall prey to this too.

41:19Before I fall asleep, I have dreams of buying company XYZ. It can't. It's got to be a hard-nosed business decision. You go to great acquirers throughout history, Warren Buffett or Catherine Graham or Tom Murphy or Brian, whatever his name is, who runs Comcast, these great acquiring companies, there's a structure, there's a framework. It's never willy-nilly. It is the same structure and framework you use to decide whether to hire sales reps or spend money on a product. You have to have that same structured framework around M &A. I guess the one piece of advice I'd give you is pour yourself a stiff bourbon.

41:55Turn out the lights, sit in a dark room with your stiff bourbon, and ask yourself, why is this company selling? This is my problem with technology startups. Why is this venture capital thing selling to me? Why? Yeah, that's a good one. Frequently in due diligence, I can find out product isn't enterprise ready. Product doesn't work as advertised. Pipeline sucks. Whatever the case may be. This is a general question, but everybody's dying to get the CFO's time. Because you're signing off on a lot of big checks that go out to the companies and vendors and so forth. What is the best way to pitch to the CFO or do that?

42:35Business outcome. Business outcome. I can't believe the number of emails I get from BDRs every day. I've got the most sophisticated folder system to shove them all. And the ones that get my attention, the ones that get my attention. I don't care if you do accounts payable, accounts receivable, TME, expense reporting, whatever. The ones that get my attention, hey, CFO, I can cut your close time by 25%. Probably full of shit, but I'm going to at least listen in case there's something in there. This is tech sales 101 or sales in general 101. I don't care what you sell. I really don't care. What I care is what I get and the price I pay.

43:15What do I get? So if you're selling to the CFO, you guys run an amazing company. Hey, I can help you with your M &A transactions. I can increase the probability of having your M &A transactions successful if you buy these products and services from me. Now, most of the time, your CFOs are going to be like, I think you're full of shit, but you've already got the hook because they're listening. If you say, I sell a set of services around M &A, they're like, yeah, so does every investment bank, Silicon Valley bank, law firm, et cetera. I've already stopped. I've already really dreamed of. This is the thing I tell my sales teams all the time.

43:47You sell business outcome. The person buying your product or service does not care what you sell. What they care is, what do they get? You're going to have to let me know, Sam, who's the best sales rep on our team after he published this. Before we wrap things up, can you tell me what's the craziest thing you've seen in M &A? Crazy? Well, look, Autonomy, was that the company that HP bought that was a complete fraud? Yep. Buying a complete fraud. Like, that's the craziest thing. I don't know why those leaders don't end up in jail. How can you not violate your fiduciary responsibility if you buy a complete fraud?

44:25Did you not do due diligence? Did you not? What corners were cut? And I've had companies that we've talked to that said, I said, there's walkaway moments. I have other examples of this where I've said, look, we want to call your top 10 customers and verify the amount of revenue that you're generating. Absolutely not. Okay, deal's done. See ya. Like, it's literally like, no, no, no, no. Uh-uh. We'll sign NDAs with them or whatever, but I want to see your billing records. I want to see if the presentations you're giving me on your top 10 customers match your invoice and billing records. And that's what I told, I used EY.

44:58I told EY, great for my life. I told EY's M &A folks, I don't give a shit what the numbers are. What I care is the numbers on the slides I'm seeing and the invoice and collections team matches. Go down line by line for the top 100 customers or 200 customers, I forget, and tell me they match. Accuracy in the numbers. You're using this to roll up a price. And the only two things that matter is price and operations. And that's due diligence. You're trying to get the price correct and build the operations plan. But you're trying to get the price correct. The crazy stuff is I don't understand how you can buy an outright fraud.

45:31Enron and all these other things, the shenanigans stuff. I have a tendency to believe that those are people who were shady. I don't think I can get them on the podcast. I'll try. I like the idea of it. Oh, my. Anybody's got M &A fraud. You should go through the records of M &A transactions where it turns out to be complete fraud and get the CFO of the acquiring company, not the acquiring company. Because the CFO of the acquired company is definitely not going to speak to you. He's still worried about being sued. He probably lives in Florida for that reason. The other side will probably be a better story, too.

46:01Both would be a good story. Yeah. If anybody listening has got some tips, please reach out. I think it'll be a fun conversation. and we can do a little series on M &A fraud. If you want to talk about lessons, I'd like to know what went wrong that you ended up acquiring a fraud. I like it. I'll take the challenge. Sam, this has been a great conversation. I appreciate you taking the time. You're teaching me a lot, helping me become a better M &A scientist today. Anytime. Anytime you want anything, I'm here for you guys. As I said, many mentors throughout my career helped me. And the fact that I get a chance to take an hour and pay it back to them is hugely helpful.

46:31I'm here for anyone. Hey, those of you still listening, thank you for sticking through. Until next time, here's to the deal.

46:47Thank you for taking the time to explore the world of M &A with our podcast. We love hearing feedback. Tag us on a LinkedIn post, add a review on Apple Podcasts. We'd love to hear from you. If you need help standing up an M &A function or optimizing one that you already have, we're here to help. And if we can't help you, we probably know someone that can. You can reach out to me by email, Kisan, K-I-S-O-N, at mascience.com, or you can text me directly at 312-857-3711. If you just want to keep learning at your own pace, visit mascience.com for a lot more content and resources. That's where you can also subscribe to our newsletter.

47:32Again, that's mascience.com. Here's to the deal.

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