Above the Crowd

Grubhub and Seamless: Effecting The Elusive Private-Private Merger

May 20, 2013:

Today, Seamless and Grubhub announced the signing of a definitive agreement to merge two of the nation’s premier services for ordering takeout online. As Benchmark is a large institutional investor in Grubhub, we were actively involved in the merger process, and we are quite excited about the potential of the two companies coming together. There are many synergies – different geographic strengths, different core customer bases, and different product strengths. And of course, we are afforded the advantage of greater scale.

Despite that there may be many obvious reasons for any two companies to combine, most private-private mergers (where both companies are private entities) never come to fruition. Public-public, and public-private are actually much easier to consummate. There are many reasons why private-private is so difficult, but allow me to highlight three specific challenges that seem quite prevalent.

 1)    Structural Challenges

Private companies typically have capitalization structures that are very complex. There are common stock, common options, and as many as three to five different layers of preferred stock, each with a specific liquidation preference. Finding a way to meld two complex capital structures is non-trivial, and may require compromise from many parties involved. But institutional investors are loath to give up previously negotiated rights, and this can be especially true when the investor in a competitive company is the one bringing the request. Even melding two separate option programs can be challenging. There are numerous techniques for bringing together two such structures, but none of them are remotely elegant, and they all involve spending many, many hours with lawyers. At the end of the day, structure is not a show stopper, but it creates a very high bar for consideration – you have to really want to make it happen to be able to sit down and sort through the complexity.

 2)    People Challenges

Prior to a merger, you have two separate management teams (with two separate cultures), and in order to merge, you have to agree on who is going to do what, and what each executive’s new title will be. It should come as no surprise that executives are fairly sensitive when it comes to topics of reporting structure and titles. Plus, you have the natural tendency to view any discussion as an “us versus them” type argument, which is not a frame of mind that is conducive to collaboration. The bottom line is that it is very hard to merge two management teams, especially when you consider the contracted time window typically associated with such a discussion. It’s speed dating. As a result, only if you have two teams with a shared vision for the future, and minds that are open to compromise could you ever hope to be successful. Some pretty high-profile mergers have fallen apart because of this issue.

3)    Investor/Founder Mindset Challenges

Most founders and investors typically think about their personal stakes in a private company in terms of “ownership percentage.” An investor may say “we own 22% of the company”, or a founder may note, “I still own 31% of my company.” These same constituents think about the overall company value in terms of dollars. As an example you might hear someone say, “we closed the last round at $100 million post.” When two private companies began discussions on merging, these overall corporate values are often debated. I call this the “dueling blowfish” problem. Private company valuation techniques are particularly specious (this contrasts with a public company that every day has a definitive market capitalization). Anyone can create any number they want (within reason), as there is no one specific formula or metric for such work. Most models are also based on forward forecasts, which offers another avenue for inflation. Basically, everyone uses loose finance arguments to over-inflate their own company’s valuation so that they can demand a bigger slice of the pie of the new company.

The only way around this is to reverse your way of thinking. First, you have to focus on the dollar value of your new stake in the combined company instead of focusing on the specific percentage. Even in a 50/50 scenario, each ownership stake is half what it once was. Assuming the deal is accretive, this should be “no-brainer” math; your new stock in the combined company is worth more than it was before. However, the “ownership” focused mind has a real problem with their stake being reduced so dramatically. Second, you need to only negotiate in terms of percentages (versus dollar value). One company will get X% of the combined company, and one company will get 1-X%. Taking this approach is the only way around the dueling blowfish problem. Assuming both sides think the merger is a good idea (and accretive) the future value is obviously going to be higher. The real question is how do we split the company amongst the two players, and focusing on this out of the gate will save an incredible amount of time.

These are just the challenges that you meet on the way to the altar. Many mergers fail not in the deal process but in the implementation process, as integration is very difficult, especially when it’s a merger of equals. And the human and cultural issues outlined above continue to exist as you attempt to merge two companies into one. Getting the “deal done” is only the beginning.

Once again, I am quite excited about the Grubhub/Seamless merger, and tip my hat to Matt Maloney, Mike Evans, Jonathan Zabusky, and both the Grubhub and Seamless management teams. Had they not started from day one of our discussions with a partnership mindset, we would have never have reached this milestone. I look forward to working with them both, as well as the investors and independent directors from both sides to help take the merged company to new heights.

7 Comments

  1. Amit Mukherjee May 20, 2013

    Typo in 2nd paragraph. Should be “There are many reasons” instead of “The many reasons”.

    Reply
  2. Semil Shah May 20, 2013

    Had no idea how these function, and they seem to rarely happen. Thanks for documenting this.

    Reply
  3. Anthony Pham May 22, 2013

    Congrats Bill, wish the merged company the new success. And, thank you very much for the documentation.

    Reply
  4. Bruce Barron May 23, 2013

    Being a part of the GrubHub board and investor group with Bill, I agree with all of his points. One additional consideration regarding the difficulty of private-private mergers is the fact that both companies typically value the fact that their financial information is not public and are hesitant to share such private financial information with competitors. It is the rare management team of a private company that can internally reconcile this situation and be comfortable to share such data early on in a potential merger opportunity. I have received several queries this week from journalists asking why most VC backed companies end up taking the A outcome rather than pursuing the M route of the M & A path. I believe that Bill’s thoughts (combined with my comment) articulate the answer to this question. I join Bill in commending the management teams, investors and boards of both Seamless and GrubHub for their collective wisdom in recognizing the great synergies of the merger and how 1 + 1 will be equal to much more than 2. Congrats to all.

    Reply
  5. Vinay Bhagat May 31, 2013

    Great summation. I went through this when my last company Convio acquired a direct competitor, GetActive Software – a private to private merger and your comments ring very true. Oddly, the cap table and preferences issue was by far the hardest thing to negotiate. The people side came together more smoothly because of good cultural fit and because of geographic synergies – they had a key presence in DC which was highly desirable for us. The thing that made the merger easier was that it was not a merger of equals per se, so management selection decisions were somewhat easier. The hard work however really began post deal in product rationalization and realizing operational synergies.

    Reply
  6. Phil Haslett August 29, 2013

    Bill, with regards to Structural Challenges: the merger of two private companies would theoretically aggregate the number of company shareholders from Grubhub and Seamless. Of course, this may have the undesired affect of pushing the NewCo towards the 2000-shareholder limit for private companies (much like how Facebook breached the former 500-shareholder limit in 2011/2012). How do the investors and management teams address this issue in Private-Private mergers?

    Reply
    • bgurley September 19, 2013

      Go public.

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