Can M&A Rescue Startups and Revive Venture Capital?
Morning Thoughts: Can M&A Save Venture Capital?
In my practice at Cadet Legal, I focus on lower middle market M&A transactions and also work closely with startups. At the beginning of this year, I set a goal to close a certain number of M&A transactions. What I didn’t anticipate, however, was how many of these deals would involve startups.
Startups and M&A: A Changing Landscape
When we think of startups, the traditional trajectory often involves rapid growth fueled by venture capital (VC), followed by additional funding rounds or, ideally, an IPO. Earlier in my career, M&A deals for startups typically meant a sale to a much larger entity—either publicly listed or backed by private equity.
This year, however, my experience has mirrored trends noted in a recent PitchBook article, “Outside the AI Boom, It’s a Buyer’s Market for Cash-Strapped Startups.” Many VCs are under pressure to liquidate underperforming companies to return capital to their limited partners (LPs).
This has led to unique deal structures where M&A provides startups with much-needed liquidity. Some examples include:
• A SaaS company selling all its equity at a discount due to a down financing round.
• A tech-enabled startup disposing of its assets in a bankruptcy fire sale.
While these examples fit well within broader market trends, they don’t capture an increasingly common structure I’ve encountered: startup-to-startup acquisitions.
A Unique Trend: Startup-to-Startup Acquisitions
One emerging structure involves a promising startup being sold to another startup with stronger fundraising capabilities. This trend highlights a shift where startups rely on M&A not just for exits, but as a strategic tool for survival and growth.
Let me illustrate with a brief case study of a deal I worked on this year.
The SAFE + SAFE Deal
The Structure
In this deal, a VC-backed software company was acquired by another VC-backed software company. The purchase price was paid using SAFEs (Simple Agreements for Future Equity)—a mechanism commonly used in VC financing.
Here’s what made this deal unique:
1. The buyer issued the SAFE to the seller, functioning as an “IOU” for equity in the buyer’s startup.
2. The earnout, a common mechanism in M&A to incentivize sellers, was also paid as a SAFE, promising future equity rather than cash.
How It Worked
• Typically, in VC financing, the seller issues a SAFE to buyers in exchange for cash, which later converts to equity.
• In this case, the buyer issued the SAFE, promising future equity in their startup rather than cash.
The Takeaways
The target startup’s founders accepted this deal, signaling their belief that the buyer’s fundraising efforts were the best path to capitalizing their business. Similarly, the buyer likely entered this deal with confidence in their ability to raise future financing, bolstered by the strength of the newly acquired business.
What This Means for VC and M&A
This deal exemplifies the creative solutions being used in today’s challenging market for startups and VCs. Non-AI-focused startups, in particular, are leveraging M&A to navigate liquidity challenges and position themselves for long-term survival.
At Cadet Legal, we believe this trend underscores an important reality: VC is a subcategory of private equity. As the market evolves, deal professionals and clients must think beyond traditional structures and use innovative tools like SAFEs to seize opportunities.
Conclusion
The intersection of M&A and venture capital is more dynamic than ever. Whether you’re a startup founder, investor, or business owner, understanding these market trends can help you navigate challenges and uncover opportunities.
At Cadet Legal, we specialize in guiding clients through creative and complex transactions. If you’re considering an M&A deal or exploring liquidity options for your business, let’s talk.
Disclaimer
The contents of this article should not be construed as legal advice or a legal opinion on any specific facts or circumstances. Your viewing and/or use of the contents of this article do not create an attorney-client relationship with Cadet Legal. This article is for informational purposes only. Please consult legal counsel for advice tailored to your situation.
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