Rod Drury founded Xero, a cloud-based accounting platform. Drury got the capital from selling another company, AfterMail, for $15M plus $20M in a potential earn-out—not bad for a company with a little more than $2M in revenue.
Rod Drury is the founder and CEO of Xero, a cloud-based accounting platform that competes head on with Intuit’s QuickBooks.
Started in 2006, Xero now boasts 700,000 subscribers and a market capitalization of almost $3 billion. Xero was picked by Forbes as the World’s Most Innovative Growth Company in 2014 and 2015.
Drury got the capital to start Xero from selling another software company, AfterMail, for $15 million plus another $20 million in a potential earn-out—not bad for a company with a little more than $2 million in revenue.
Drury offers all kinds of insight in this interview including:
- How to avoid the mistake he made in structuring his earn-out, which ended up costing him $20 million.
- The definition of R&D by acquisition.
- How to use public company arbitrage to increase the value of your company.
- How to transition from offering a service to a product.
- How to get an acquirer to come to you.
- How to exhibit at a trade show if your goal is to get acquired by someone in your industry.
How to Avoid an Earn-out
Drury never saw a penny of his earn-out money, matching the experience of many entrepreneurs who agree to be acquired using this financing scheme. These days I run a company called The Value Builder System™ where we help entrepreneurs avoid earn-outs. Our goal is to ensure your business is so attractive that you receive multiple offers forcing a buyer to move the amount set aside for an earn-out into the cash offered to you at closing.
Generally speaking, the higher your Value Builder Score, the higher the proportion of your offer that will be in cash. Figure out where you’re at by getting your Value Builder Score.
Rod Drury is the founder and CEO of Xero, the leading international cloud accounting solution for small businesses.
Rod is a member of the New Zealand (NZ) Hi-Tech Hall of Fame and an Honorary Fellow of the Institute of IT Professionals NZ, as well as being awarded the 2013 Ernst & Young New Zealand Entrepreneur of the Year, NZ Herald Business Leader of the Year in 2012, NZ Hi-Tech Entrepreneur of the Year in 2006 and 2007, and World Class New Zealander for ICT in 2008.
Some Highlights of the Show
Business: AfterMail, acquired by Quest Software (subsequently acquired by Dell)
2:50: “We sold to large enterprise … We never set out to build a long-term business. We architected the whole business to sell it. We saw that there was this R&D by acquisition model.”
3:55: Making decisions differently based on building for acquisition vs. building for long-term.
5:09: “We sold the business within two years of starting it up.”
7:52: “You have to have some time to build intellectual property [to build a product business from a service business].”
10:09: “We had to bootstrap by not getting paid. We got to revenue very early once we had a prototype of AfterMail working.”
13:00: “Once you got to $200,000 in monthly revenue you actually needed $600,000 in working capital just to fund the business. The $1M in angel investment we took was just to fund working capital … This was a very big lesson which is very relevant to the Xero product today.”
14:00: Talking angel investors.
18:05: “Do we go and raise some money or do we do a trade sale?”
18:35: “We booked a booth in a trade show where a likely acquirer would be … We were looking at who would be the natural acquirer of our business and building those relationships.”
20:24: Click to Tweet: How to use public company #arbitrage to increase the #value of your company.
24:00: The number on the napkin and a multiple of 10X revenue.
28:25: “You have to do the selling internally so that people don’t stop working.”
29:38: “One of the key things we did was have a great M&A lawyer on our side of the table … having an advisor who is preserving and maximizing value.”
33:00: The issues that came up during due-diligence.
37:05: “The short story is, we got none of [the earn-out] … If I was doing it again … I would actually put a time delay on the earn-out period starting—maybe 3 months … You would be very formal about how you were going to educate the sales force … and there is a huge amount of time taken just to institutionalize this new product.”
39:50: “I learnt so much about large organizations and global software. I actually found the earn-out time and being inside Quest to be one of the most valuable times in my career …”
41:00: Talking making acquisitions within Xero.
44:00: “It would have been good if we had a bit more capital at the beginning … It didn’t really achieve its full potential inside the organization that bought us. Just having a bit more founder-time where you drive it forward.”
45:09: Find Rod on Twitter at @RodDrury
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