Big outcomes in SMB: how to achieve big exits for SMB-focused startups (Mark MacLeod, SurePath)

Hello, my name is Mark McLeod, I'm the founder of Surepath Capital Partners.

Really pleased to be here today. This is actually my third small Business web summit.

This room is a little thin at.

The moment, but having seen kind of how busy it was in the mornings, it looks like the summit's getting a.

Little bit bigger each year, which is great to see. So today we're going to talk about how to achieve big outcomes, big exits.

For startups that serve small business.

In terms of agenda. I'll briefly introduce myself. I'll talk about surepath and why we.

Have such a focus on SMB focused startups.

I'll talk about the two paths to exiting your company, which are obviously selling it to someone, or if you're masochistic.

Enough, taking your company public.

And then if you look at those.

Companies that have achieved big outcomes, what.

Is it about them?

What can we take away about key success factors to succeed in SMB?

And then I'm going to finally introduce.

A little thing that we released today called the SurePath SMB Index.

Very briefly. So I have been involved in venture.

Backed startups for almost two decades now. I spent 14 years as CFO for a number of VC backed startups. The last two companies I was CFO.

For were FreshBooks and before that Shopify. In between I went to the dark.

Side for three years as a VC investing mostly in SMB focused startups, companies like Unbounce, SuiteIQ and many others.

And now I run Sharepath Capital Partners, which is an advisory firm that helps companies like yours either raise growth capital.

Or find buyers ultimately. And we do all of that in kind of a non sketchy, non investment banker way.

Our firm's a little over a year old.

We have 26 clients across Canada, the U.S. and Europe and large number of our clients are SMB focused startups.

I think I just talked about all that. Blah, blah, blah. I should mention, by the way, there's a fair bit of content in this.

And it's probably more than can be.

Delivered in 30 minutes. The intent is not to overwhelm you.

Here, but it's meant to be a resource that I will make available afterwards so you don't have to read all of that.

So let's talk about why SMB, why we love it. So hopefully I'm preaching to the choir in this room, but SMB is just.

A fundamentally massive market. There are 400,000 new small businesses created every quarter in the US alone.

There's different ways you can slice and.

Dice the market from kind of micro to Small to mid, this is how we look at it. But you may have other frameworks.

So just a huge market and some.

Of the trends that we see and the opportunity that we see for software as a service vendors and SMB is.

First of all, they're everywhere. It's the backbone of our economy.

Our economy here in the US is very services based, knowledge based.

And there's a real trend that's happening that's many years in the making. I think older generations of entrepreneurs were.

Very happy running their businesses on paper or spreadsheets or Google Docs or whatever.

But the new generation, they're just going to assume whatever need they have, there's.

Just an app for that somewhere.

They're going to find it on an.

App store, they're going to find it on Google, they're going to try it out and if they like it, they're going to buy it. And so just a huge opportunity there for the next generation of entrepreneurs. And.

And then the last thing is just it's such a massive market. You know, in stark contrast, if you look at enterprise or consumer markets, they tend to be kind of winner take all or winner take most. Like no one would start a social.

Network to compete with Facebook today as an example.

But if you look at small business, it's such a massive market that no one can ever have dominant share. If you take the accounting software world, where I just came from FreshBooks into it, had a 30 year head start.

Has somewhere around kind of 20% market.

Share, it's not nothing, but there's still room to grow, there's always room for new players. Similarly, if you look at the CRM side, I would argue Salesforce, which started.

Out serving SMB and then has gone.

Up to enterprise, their churn, just the churn they've lost.

Customers from Salesforce is worth 550 million a year.

That's actually a pretty interesting addressable market.

Just trying to pick off some of the churn that Salesforce has.

So point here is there's always room.

For new players when you serve SMB.

No matter what vertical you're in. And there's similarly always room to consolidate. And so the few active buyers in.

SMB are quite active.

Now from a funding perspective. You know, if you look at the portfolios of most venture capital firms, you.

Will see lots of enterprise companies, you'll see lots of consumer companies.

But in my experience, SMB is actually.

Quite underrepresented in VC portfolios, despite everything.

I just said about how big the market is. And the reason I Think that's been touched on in a bunch of talks.

Over the last couple of days, is.

It'S really, really hard to acquire lots of small customers.

When a customer is paying you $20.

A month, there's a limit to how.

Much you can pay to acquire that customer.

And so what happens over time is you actually become a victim of your own success. The bigger you are, the more that.

Kind of incremental customer costs to acquire and therefore your unit economics kind of compress.

I still fundamentally believe there's a mass market there.

And my sincere hope is that over time, more and more venture firms will figure out that there's a big opportunity in SMB.

And I think a big part of.

What it comes down to, and this again is probably another topic unto itself.

But direct response channels only get you so far. And so there's a lot of talk today about actually building true channels.

And that's really kind of the secret to going kind of big in SMB.

So let's talk about the two paths to exit. I don't know if you can see this here. This is just a look at kind.

Of software as a service company's the exit activity over the last three years.

The big takeaways here is there's a.

Very small kind of number of IPOs each quarter. Significantly more exits acquisitions each quarter. Kind of the black line is the average IPO kind of valuation, how much that company was worth when it went public. Obviously the acquisition prices are a lot smaller.

I think the only takeaway here is that the vast majority of startups exit by way of acquisition or death.

That's obviously a thing, but very few companies exit by way of ipo.

That is changing a little bit. When we talk about the SurePath index.

You'Ll see that there's actually been a trend of more and more SMB focused companies going public. But in the overall context, maybe 1 or 0.7 out of every 10 companies exits by way of IPO.

Here are some of the recent IPOs.

So since 2013 16, kind of either exclusively or largely, SMB focused startups have gone public. There's probably, I'm sure you probably know most of the names here. No IPOs so far in 2016, but pretty active the last few years. Probably not going to be able to read all of this again, this is intended for you to read afterwards, but.

If you look at kind of the five most recent IPOs, just some takeaways.

Kind of absolute minimum revenue that you need to go public these days, the smallest that Happened was a $50 million company.

In my experience, you need to actually.

Be closer to 100 million revenue run rate if you want to go public on what's called the big boards, New York Stock Exchange, nasdaq.

You know, revenue growth is a thing.

Tomas talked today about the importance of revenue growth as being one of the biggest drivers of valuation. The slowest growing company that went public was growing at 44% a year. My former company Shopify went public last year, growing at a little over 100% a year. And the multiples reflect that.

And then, you know, it used to be like when Salesforce went public. Salesforce was the first SaaS company that.

Went public and it really had to educate the market on this whole notion.

Of, hey, you're going to pay me.

A little bit over time versus you're going to pay me all up front.

And the market really didn't understand that. I'd say public markets do understand that.

Now and they do actually understand that.

Being bottom line profitable.

So your P and L statement actually having a positive number at the bottom.

Is not necessarily as important as your.

Unit economics being profitable, each customer being profitable.

And so only one of those 16.

Companies that went public in the last few years was actually cash flow positive, which was Atlassian.

Path to ipo. How long does it take to get there? So on average Companies take about 12.

Years from birth to going public.

There are some exceptions to that. Zero.

Many of you probably know really had no choice but to go public. I think almost from day one because there are no private venture capital markets in New Zealand.

But on average, kind of about 12 years. So let's switch to acquisitions. As I mentioned before, way more acquisitions than IPOs. So if I take the kind of.

Most active acquirers of SMB focused companies, they bought 146 companies in the last three years.

On average. They spent about 450 million every quarter to buy companies. And there was one outlier. He's not in the room today, but.

He was at the event. Joe from Endurance International has the honor of being the guy who executed the largest SMB focused acquisition ever, which was the purchase of constant contact for $1.1 billion.

So that's just kind of a flavor.

Of deal count, deal sizes, et cetera. On the acquisition side.

How much are these companies worth? So you'll see that one outlier, which.

Is Q1 of last year, that's constant.

Drove that way up.

On average, these companies are exiting for $55 million.

And I think the big takeaway there.

I think I'll talk about it on the next slide.

So if you take all those 146.

Deals and stratify them by deal size.

Over half of them have no disclosed value, which means one of two things. It means the acquirer is so massive that your company is actually immaterial to them and they don't have to disclose it more often. What it means is actually the deal.

Price is de minimis. It's just not that big a deal.

And so I think the bursting of the bubble here is, if you read.

TechCrunch too much, you think that you're.

Going to raise a bunch of funding and you're going to have a massive.

Exit and it's all going to happen inside three years and it's going to be awesome. The reality is the outcomes are just much more modest than that. Over half of those 146 deals no disclosed value.

Another kind of almost a third of those companies sold for sub $50 million. And you'll see there only one company.

Sold for more than 500 million, which was constant contact.

So constant contact is probably known to everyone in the room, really.

The company has been around for a long time, 21 years from birth to exit. It went public pretty early along the way.

So I thought it would be interesting to just kind of throw up their trajectory. I think they did a lot of things really well, but there's some things.

That they kind of missed along the way. They started out kind of growing really.

Strongly, but if you look at that kind of blue dotted line, it's probably hard to see, but that's actually the revenue growth rate over time and you'll.

See that it's massively decelerating.

I think anyone who achieves a $1.1 billion outcome should have a round of applause. But I think that would they had.

More opportunity had they continued to invest in product and continued to maintain their growth rate.

This is hard to see, but this is just kind of illustrating some of.

The key levers in their business model. You know, just kind of driving up arpu, so getting more revenue per customer over time, shortening the payback period of when those they pay for the customer acquisition cost.

And so they just. The thing with software, like there's some businesses, they tend to be ones that.

Are in consumer and they have some.

Kind of viral loop. They're binary.

Either you kind of figure out that.

Virality and you figure out that user.

Experience and it blows up to something.

Massive, or it's worth nothing. But really what I see in software as a service, particularly B2B is there's no magic moment. There's no kind of one thing that.

Just makes your company happen.

You just grind it out and you.

Just keep your head down and you wake up one day and you have.

A really big company.

And I think that's what you see with constant content.

So who are the most active buyers? There's probably a bunch of names that.

You know, there kind of Intuit, Groupon, GoDaddy, etc.

So nine. There's nine companies that acquired more than.

Half of those 146 companies over the.

Last three years and then another 29.

Different companies that bought the other half.

So shouldn't be a big surprise there. I think one of the things, and this is partly why, if I go back to my earlier observation about the.

Fact that there are relatively few SMB companies in VC portfolios, one of the.

Reasons is because it's so hard to.

Build mass market distribution and scale.

There are relatively few large companies who have actually figured that out. Which means that there is a smaller pool of buyers for you. If you're building an enterprise software company.

There'S lots of buyers for you. But if you're building an SMB focused company, it's really kind of those names that you see which is reflected in the concentration of the acquisition activity.

Path to acquisition, how long does it take on average takes about nine years.

From inception to being acquired. I'm guessing that's probably a little bit more than you thought. Stop reading TechCrunch. Constant contact is 21 years from start to finish.

Median is 6 years.

That's probably a little bit closer to what you thought, but that's just kind.

Of what the data shows there. How do companies go from kind of start to exit? This was actually pretty interesting.

I was surprised when I saw this data. Almost half of the companies in the SMB space were bootstrapped.

Never raised a penny of capital. Maybe a little angel money along the.

Way, but no institutional capital.

And I think there's two things that.

Are behind that trend.

One is so a bit of a chicken and egg. It's hard to raise that institutional capital.

For the reasons that I mentioned before.

The other is most SMB markets are.

Actually pretty evergreen in nature.

You're always going to need accounting software.

You'Re always going to need CRM, you're always going to need productivity tools.

There isn't kind of a paradigm where a standard is set and then that.

Market'S won and it's game over.

It doesn't mean that you can go slowly and just Take your time. But it does mean that in most vertical markets you're going to have a.

Very long window to build a business, which means you can hunker down, focus on the fundamentals and kind of grow profitably. And so you're seeing that here.

Now it should come as no surprise.

Those bootstrapped companies, their exit value is about a third of what you see for VC backed companies. The median exit for those bootstrapped companies was around $34 million.

That's not too bad. If I'm a founder and I own all of my company and I sell it for $34 million, I'm a happy.

Guy, my life's changed and I'm all good.

So I think a good news story there and something to bear in mind.

When you raise vc. Yes, you're going for those big outcomes, but you're obviously diluting yourself. You're losing control a little bit. So just a trade off to bear in mind.

So put all this together. So success in SMB, what takeaways can.

You have from the company?

So again, this could be a talk in and of itself.

So I'm not going to do it any justice whatsoever.

But here's some of the things that.

I've seen over time.

Everyone's been talking about the challenge of.

Acquiring customers in SMB.

So as far as I'm concerned, there are kind of four ways to really.

Acquire customers at scale in SMB.

One is to have a ridiculously low.

Cost of acquisition, usually driven by some.

Kind of viral loop.

The companies that you see here, I think are all examples of that. Dropbox, mailchimp, et cetera.

The second is to kind of just snub it out on one product, just.

Grind it out and get enough of a critical mass of customers where then.

You can either buy or build other products to sell to them.

There's many folks that do that. GoDaddy and Square are just a couple.

Another strategy is to diversify and focus.

On international second third tier markets.

You know, the US market is super competitive.

Everyone's going after the same set of eyes. Your direct response channels just become more and more expensive. But wix and Sage are just two of many examples of companies that have gone into very different markets, South America, etc. Where there's just less competition for those same customers.

And then the last is to build channels. So you know, if you take the accounting software world, all the big incumbents.

There have massive channels where CPAs and bookkeepers are sending them customers.

And at HubSpot, about a third of.

Their revenue comes from web agencies. So kind of building channels around your product is super important.

So again, just a few takeaways. Building for the long term.

The point of that really is just.

What I said earlier.

In most vertical markets in SMB, you will have a long window to pursue your vision.

You don't have it all figured out.

In a couple of years. And so you can really plot a long term course and be patient about.

Building your company, maintaining profitable unit economics. This is super important, obviously, especially if you're bootstrapping. But if you do want to raise.

Money, the difference between the lifetime value of a customer and how much you pay to acquire that customer will really. And then the kind of addressable market, how big that market is, will determine whether you can raise that capital or not. It's just the most important thing.

Channels we talked about.

I won't belabor that point.

The final thing is to own a segment. If you just sell to small business, in my opinion, you sell to no one. No one just identifies themselves as a small business owner. They identify themselves as whatever their profession.

Or trade or craft is.

And so you have to segment and.

Speak to just those people in their language.

So if I take FreshBooks, where I came from, so FreshBooks is number two in North America after QuickBooks in the Cloud accounting category. Lots and lots of customers. But up until a short time ago, it only spoke to maybe five verticals.

Graphic designers, web designers, creative professionals.

It wasn't trying to be everything to everyone. And it didn't speak to that in its messaging.

It didn't design for that in its product. It was super specific and segmented. And as far as I'm concerned, that's the way you actually build critical mass.

I'm going to end by talking about SurePath SMB index. This is a little thing that we launched today. If you go to surepathcapital.com it's, it's up there. We were inspired by Bessemer's cloud index and we felt that there needed to be a similar index, but for the.

Public companies that focus on SMB like you do.

So we looked at 280 annual reports.

Of companies, tried to narrow it down to the ones that sell exclusively or primarily to SMB.

We found 42 companies.

Those companies are here.

16 of them have gone public in.

The last few years. I talked about that a few slides ago. The others have been around for a.

Long time and we turned that into a little index which is here. Black line is the SMB index.

You'll see the others are kind of the S&P 500, NASDAQ et cetera.

You know I think no surprise.

Yeah I'm almost done.

No surprise here. The index kind of correlates very closely.

To the movement of the other indices maybe slightly higher highs, slightly lower lows. So more volatile. But no surprise for me because SMB is the bulk of our economy. It's most of the companies and most of the employees. So no surprise there.

One thing that was interesting I thought out of 42 companies ADP represents about.

A quarter of the combined market value of these companies. So ADP intuit fundamentally massive companies and then you go down to some smaller ones.

Anyway we're tracking that in real time on our website and we'll have other.

SMB focused resources that we're making available over time. So please go sign up and you'll receive wisdom from surepath as and when we have it.

That's it. Thank you very much.

I'll take questions if you have them.