IMLogic - Brian Flynn
Don: [00:00:00] Brian, thanks for joining me today to talk about startups and exit stories.
Brian: I enjoy spending time with you, Don. Thank you for having me.
Don: So we're talking today about one of your early companies that you were involved with called IMsecure, and can you tell me a little bit about how it got started? What was your background before the company? And then where did the idea come from?
Brian: Sure. You know, in a nut shell, I say that if people remember me, it was a tech M&A banker who turned serial entrepreneur. Basically I learned how to sell a business before I learned how to build a solid business.
Don: That's definitely backwards for most founders .
Brian: I didn't even know how to sell a product. I had just learned how to sell a company. So I spent seven years on Wall Street followed by twenty plus years of self-employment. IMsecure was the second company, a startup, that I founded, and what was interesting about it is I worked with my alpha geek technical co-founder from my first company, called Utras,[00:01:00] during the internet bust. During the internet bust here in Silicon Valley, there just weren't a lot of companies being started. A lot of people were unemployed. It was a crazy time. My co-founder, who was a very visionary product guy, and I were talking about , 'What software are IT folks consistently buying, even during recessions?' We learned through research that it was security software, so we thought, if we're going to create something that's recession proof , is there any white space in the security software landscape? And Gene Linetsky , my co-founder, identified instant messaging as a communication medium, kind of like email, as not really having any security around it.
It was growing so fast, much faster actually than email was, but we had to figure out verticals or kinds of applications [00:02:00] where companies would actually buy a security around instant messaging. So we formed this company called IMsecure (Instant Messaging Security) and we bootstrapped it. We put in $50,000. It was me Jean and a few others in Palo Alto, and we had a dev team in the Ukraine, which actually was quite novel back then.
Don: So this was 2002 or something like that?
Brian: Yeah 2001/2002, right in that timeframe. We hustled in doing customer development. We had a theory that relied upon identifying verticals with active users of instant messaging where there may be some sensitivity around security. One of the verticals was the legal space: lawyers have got client confidentiality.
We found out there that lawyers weren't really willing to pay for it, but they were intrigued by it. Another vertical that we checked out was the financial services space. In that market, [00:03:00] we learned that there were block traders that were using instant messaging to do $10 million block trades or $100 million block trades, and, if people caught wind of, for example, George Soros doing the next thing, they might actually front load that stock - which is kind of crazy. As we dug deeper, we actually got a company called Bank of America as a first client , which at the time was, if not the largest bank in the US, one of the largest, and they were willing to pay for it.
Don: How did you get Bank of America as one of your first customers?
Brian: Well, first of all, we got an MVP. Then, through discovery work, we found out that there were traders at Bank of America and traders on Wall Street that were using this stuff. We figured , if traders are using this, can we talk to some of the IT folks, that are in charge of security software for these big commercial banks?
That led to the voila moment. So it was a lot of MVP [00:04:00] testing we had and then we had a product that was working. We demoed it to some folks at Bank of America and they thought, 'This is really interesting. We'd love to have this,' because Bank of America, just like all the other 12,000 banks in the United States that had any sort of involvement in IM around securities probably wanted to cover themselves for compliance reasons or growing compliance. So they said 'Look, we're willing to license this for a hundred thousand dollars'; we were looking at an RFP.
By the way, we were also competing in the market because we were the bootstrapped version. We weren't the only player in town. There was another company, we thought of them as the Goliath, called IM logics, and I think they raised over $30 million.
Don: Wow. So that was the challenge: bootstrap versus $30 million VC money.
Brian: Exactly. And that's actually kind of the story of my life. One of the reasons why we started Founder Partners is because you don't have to be a unicorn. You can have these really scrappy mustangs that can do really well [00:05:00] for founders, but I won't get off on that tangent.
I'll stick to a different tangent, which was well, how did you get that hundred thousand dollars? That was another learning moment for me. I didn't know that there was this thing called 'procurement due diligence', which is very different from M&A due diligence. M&A due diligence is you have to have a data room, you have to look at cap table, etc. Vendor due diligence was quite a different proctology exam. It was actually more painful in many ways than M&A. The scary part was that the Bank of America team found out that we were just this fledging team, even though we had a great product. At that time, we had burned through $30,000 of our $50,000 initial investment on our balance sheet, and they were worried that we actually wouldn't be around.
They said, ' Look, I love this product. You guys are way out ahead of the market on other products. We can't find anything quite yet like this, but how about if we introduce you to one of our security software vendors that are [00:06:00] much larger?' Having seven years of tech M&A experience on Wall Street, I used my little sniffer and thought, this could lead to a strategic partnership, i.e. a potential M&A.
Our introduction was to Zone Labs, which was at that point a pre IPO company, and they were really interested. In fact, they made us an oral offer , but I also knew I wanted to have a process, because having run many M&A's before in my former life as a Wall Streeter, I was able to get offers from the big publicly traded companies like Symantec and Network Associates, and then another big private company called PGP Software and then played them off. Ultimately we sold to Zone Labs for a price that wasn't disclosed, but it was a very healthy price , one that allowed us to to take some time off and figure out what we wanted to do next.
Zone Labs actually was bought, and the great thing about that deal was we did have these publicly [00:07:00] traded offers that were liquid offers. The Zone Labs scene was as good, but one of the reasons why we sold to a private is it was growing so fast. We thought that we could actually own private equity and take another ride, which we did because Checkpoint Software bought Zone Labs for $230 million about six months or so after we'd closed the deal with Zone Labs.
Don: So did you get equity as part of your payout then?
Brian: Yeah, we sold for private equity and then we got bought out for cash at even a higher premium. It was a risky bet on our part, but as entrepreneurs you've always got to take risks.
Don: So let me ask you this. When you got that first offer from Zone Labs, it's so tempting to say 'This might be the right offer', but you said, 'Wait a minute, I want to run a process'. And that takes time, I can imagine, to go find these other potential acquirers.
Did that feel like, 'Oh my gosh, we might just lose this deal?' Because you have the B of A deal and then this Zone Labs deal, and if that all comes crashing down, you've got nothing. So it would be tempting to jump at that; how did you manage that process to say, 'No, we're not going to jump into this. We're going to [00:08:00] go through a process'.
Brian: Don, it's a great question. I was very comfortable with taking our time. The reason why is I've done probably over 200 M&A's in my career and, at that point, probably over a hundred. I had seen when a buyer is interested in an asset, essentially the team and the intellectual property, if they give an exploding offer for a certain amount, it's not like they're going to go away. They're not going to get spooked because they've done all the analysis; the company's already on their product roadmap, and they've generally already vetted. So, it's important for any founder to do a market check . It's the right thing to do for the founder and for their shareholders.
I told my other co-founders at the company and some other shareholders 'Let's hold off for a second. It's the first offer. Let me go talk to the other obvious buyers.' And I knew how to do that, how to communicate. I found either the CEOs of these other companies and/or the deal [00:09:00] champions at these other companies, and it was just a pretty quick note.
'Hey, Mr. or Mrs. CEO at XYZ company, just wanted to let you know we are in advanced M&A discussions / we've had an offer from one of your competitors. We don't necessarily want to sell right now, but we figured that we should at least have a conversation with you. Here are the three different value props that we would bring to you. Please let me know if a conversation makes sense.'
Believe it or not, the strategics are all competitive with each other, so those meetings happen within a week - really fast.
Don: It sounds like you had a pretty good response rate from that too, because you had multiple responses from it.
Brian: Right. And the saying goes, even if you don't have the M&A experience, if you don't ask, you don't get, right?
It's really about being calm, knowing what you really want, and selling isn't necessarily just a function of pure economics. It could also be a function of: the buyer has a shared strategic vision with [00:10:00] us, we know we can bring value to them, and me and my team can thrive. It's good chemistry.
Don: That's super interesting. And some companies use an M&A advisor to help them through this process. In your case, you didn't; you already had that background coming in, so that was super valuable. Did the result of those competitive bids drive up the initial price from the early discussions .
Brian: Yes, it did. It drove up the price by 50%. Being an M&A guy, I'd say you should expect competition to drive up pricing by 20-40% or so.
But there can be other situations more like my third company, another company that I co-founded in the ad tech space. I drove that up by over five acts initial offer.
Don: We definitely want to get into that at some point. I think there's this sort of magic of , as a founder myself, the M&A side of it. The process as you called it is so important. And whenever I talk to founders, I say, even if you're not thinking to flip the [00:11:00] company, you need to be thinking from day one about who your potential acquirers should be, and it sounds like you were doing that, right?
Brian: Yeah, definitely. I advise founders of companies to think about their M&A's from very early on and how to form strategic income statement relationships with those parties so that when the time is right, maybe that's something that's happening in the market, that there is a higher likelihood of a successful exit. Oftentimes founders just get approached out of the blue, and that tells me, or that should tell those founders, that something is going on in their market and they may want to pull their head out of the weeds and start thinking more strategically.
Don: It's so easy to get caught up in the day to day as a founder. You're trying to take care of customers, get your product to the next level, get new customers, you're meeting with advisors and investors. It's so hard to take that step back.
Brian: It really is. I always say in M&A's, I think founders [00:12:00] unfortunately, now I'm putting on my M&A hat, screw up M&A's for two reasons only. One is that they miss the window, which is actually quite unfortunate. When the music stops, there's no chair to sit on. The second reason is they inadvertently say the wrong thing during the M&A process. What's so sad about that is they may spend years and years building a business and the actual M&A is like a blip relative to that time, but so much value can be created or destroyed in that short period of time. Those founders may have the opportunity to exit only once in their lives, but they're dealing, for example, with very sophisticated M&A corporate development deal makers who are talking and playing tricks all the time, looking for signal on how to get the asset for the cheapest possible price.
Don: So you're saying that a founder, because they don't have a lot of experience doing M&A and they're negotiating with someone who does this for a living, may give off certain signals that indicate to that [00:13:00] experienced M&A professional that they don't really have any competitive bids or they're desperate to get out for some reason.
Brian: Absolutely. Or the founder actually just gives a number. There are hundreds of these different kinds of things that they just don't necessarily know. The other thing I would say is M&A is an art and a science, but there are so many different constituents that are involved in an M&A both from the sell side and the buy side. The sell side is the founder and the founder's cap table. I've seen and I've been involved in situations where founders sell out too early. Not necessarily at a low price, but a low price relative, because they could actually grow the business much bigger. And that's big oftentimes because there are other people in the cap table, maybe co-founders, that have mortgages to pay for. They never had a liquidity event, and it can work out okay, but money can be left on the table.
And then there are also all sorts of other factors from the buy-side that are at work. So I always tell [00:14:00] founders, even if you have a term sheet, even a signed term sheet, you are only like 50% of the way there getting the deal done because there are so many existential factors that can be outside of your control. For example, one of our companies called Clean Shelf had four different M&A offers and three of those term sheets that came in blew up. One, because the buyer ended up missing their numbers, another because the buyer was actually getting bought himself, and I remember a separate situation where the champion of the deal ended up leaving the acquiring company.
Don: Oh geez. All of these things can happen, and that's why you need to make the deal happen quickly and not drag it.
So that brings up a related question for me. In your case for IMsecure, what was the motivation of the buyer; why did they want to get you? Was it time to market because you were a pretty early company? Related to that, how did you then use that to determine the [00:15:00] valuation?
Brian: Great question. The first thing is, and this is pretty typical of buyers, buyer strategics in the case of IMsecure wanted the product because we were on the product roadmap and they wanted to use it to leapfrog their competitors. They wanted to be different in the market.
And some companies actually want to use a suite of different products to beat out their competitors.
Don: They saw that you guys had developed something that was ahead of the market. They could acquire you and then instantly offer that product.
Brian: They could instantly offer that product that makes them different in the market. Number two, although I didn't go with the Zone Labs checkpoint team, they looked to my co-founder and the team, the product managers, as really visionary. They could pick up a team that could continue to innovate new products and services, which is great.
And then third, as in every deal, there's always economics and synergies, which leads to the second question. How do you know what's the right price? Well, at the time, IMsecure, like my first company, [00:16:00] didn't have real revenues .
So how do you value something that doesn't even have revenues? That's pure art. I don't think that that's science. If it was science, it would be because you're taking a multiple of revenues, you're looking at precedent acquisition multiples, and things like that, maybe your creative and competitive process. In the case of a company that has a product that has a dollar of revenue or no revenue but the product actually works, the valuation is really embedded, I think, into the synergies. So imagine Symantec, which we had an offer from, McAfee, PGP, and Zone Labs all saying, 'Hey, look, we've got a customer base of, let's say, a thousand customers, and we believe that 10% or 20% of our customers, 100-200 customers, are going to probably buy that IMsecure product within two years. And by the way, IMsecure doesn't even know how to price their products. We think pricing should be this versus what they are currently'. That's the marriage value over a period of time.
[00:17:00] They're willing to spend up to a certain piece of that pie, and every buyer's got a different set of pies.
Don: You don't know that information though, as IMsecure. You know, that's what they're thinking, but you don't really know what they think it could sell for, so you just come up with an estimate, then?
Brian: I come up with an estimate and try and get that information. Just as much as the corporate development guys are trying to pry information from us, we're trying to pry information from them. 'Hey, can I take a look? I know you guys are putting together a business plan about the acquisition of IMsecure. Can I actually see, because I could probably add a few things to it?' That's called getting signal. How desperate is a buyer? When I did this other company I sold to Yahoo, because I actually knew a lot of this information, I was able to get the five X return, not the 50% increase in value.
So that was really it: taking our time, running a process, and getting the best value. While it was a very good exit, I think that we should have held on a little bit longer. One of the members of the team[00:18:00] was younger, was a little bit more risk averse than some of us others, and we said, 'Okay, look, let's just find it a home rather than trying to raise more capital and, taking another two or three years out of it'.
Don: Got it. So you could have continued running. Even though you were still pre-revenue, you knew you were onto something and you could have grown that. Your valuation would have been even higher.
Brian: Yeah, because I think actually if we had not bootstrapped the business and we had had maybe a couple of small banks other than Bank of America already using the product and we were doing X amount of money in revenues and then I had term sheets from VCs, I'm sure that would've gotten Bank of America even more comfortable. You can always bootstrap, it's just there were a lot of different factors on the team that ultimately made us decide to sell perhaps a little bit early. From starting the company to exiting that business was one year.
Don: Wow that's pretty remarkable. That's a quick deal . So you didn't have to pivot a whole lot. I mean, you did a lot of that early on by testing these MVPs, right? By the time you're in the conversations with Zone, [00:19:00] the diligence process is something that most companies fear. I remember when going through this the first time, I had so many people warn me , 'Don, I'm just telling you, this is going to suck. It is going to be really hard. It's going to be painful, but just stick it out and go with it'. What was it like in this case for you guys? You were pre-revenue so you didn't have a lot of financials to compare it to.
Brian: Yeah. Well, that's exactly right. Let's talk about what it was for us versus other companies I've been involved in either as an owner or as an advisor, M&A advisor.
When you've got a company that's only a year old, diligence was actually pretty simple, but I always advise founders to keep a data room with all the basic information. That basic information is your cap table, your legal docs for the neodymium incorporated and how you finance the business.
You've got a business plan, contracts with your customers and anything around the intellectual property, and the product roadmap. That was very simple for us at IMsecure. I've been involved in other companies where things are much, much more sophisticated.
In fact, I always think about due [00:20:00] diligence in terms of pre-LOI due diligence and post-LOI due diligence. Pre-LOI due diligence is really more lightweight, and I always tell founders, figure out what are the green, yellow, and red lights of communication or of information sharing.
So first of all, get your NDA in place , and make sure that NDA has a no-poach provision that they're not going to try and take your key employees if you're a larger company. And then the green, yellow, and red lights of communication are basically how much information you should share by functional area: technology, product, legal, financial, customers, all that stuff. The reason why that's important is that you want to figure out if the buyer or the suitor is really serious or not, because if they're not serious, they may actually take advantage of you as a seller and learn as much as they can.
Now, I will talk about M&A's, I've been involved in where I've been up to Redmond to visit Microsoft [00:21:00] several times. I've been to Apple several times with clients that have had much bigger businesses than IMsecure. And the sad part is these founders sometimes go into these meetings in Redmond and there might be 15 people from Microsoft there; a lot of them are product managers and they will suck the founder dry of information because they're basically trying to build a competing product. And the unsuspecting great founder's like, 'Oh, let me tell you this, let me show you that', and then they leave the room , 'this is such a great meeting'. And then they don't hear back from Microsoft, because Microsoft goes out and builds a competing product. So I think that it's really important to understand what you're willing to share, what you're not willing to share, until you feel comfortable with a signed LOI. So you're not giving up too much information.
Don: Stages of what you will share based on if they're serious or not. That's pretty cool.
Brian: This is correct Don. And then post-LOI, I call it more confirmatory due diligence.
Don: That's interesting. I've seen that even with VCs and PE firms calling around to founders, just trying to [00:22:00] size the market and get an understanding, they're not really interested in necessarily investing or buying. They're just trying to build their knowledge about a space. You see a lot of that too.
Brian: Totally. And that's what we always tell at Founder Partners our portfolio companies: don't talk to those people. Unless they've got a portfolio company that has got a strategic adjacent product line where a partnership can form, then that's fine, but don't be giving up private information.
Don: Right, right. So this is great. This is a cool story. And what a fast exit too. So you've gone through, and you did the deal, you had the competitive offers, you had the diligence, you went through all that, and you were happy with the outcome it sounded like. Right? So what was the first thing you did after you sold your company?
Brian: So after I sold the company, I sat on the beach. The reality is this: I'm an unusual person. It's not so much me versus Gene, my co-founder. Gene stayed on with the company for, I think, two years at Zone Labs.
Don: Was there an earnout for some of the people in the company or not?
Brian: There were some golden handcuffs. In that particular deal there wasn't. [00:23:00] So some of us were just done, bought out. It was clean. And then there was some management retention for Gene who's my brilliant co-founder, technical founder.
He stayed on to do great things for Zone Labs checkpoint software. In my case, in the case of some others, we left and we were free to do what we wanted. And then I actually was silly. I literally sat on the beach, joined another company, and I then did my third startup.
Don: Nice. Sounds like we've got a couple of other stories to explore here or multiple other ones I'd love to talk to you about, but just to wrap up for this story with IMsecure, if you had a friend who was starting a company now, what would you tell them? What were some of your learnings from that particular experience that would be the highest value lessons you could pass on to somebody.
Brian: Yeah. There's a lot. And I think I touched a little bit on them, but I can expand on it.
I think the first thing is any founder, after they're getting product market fit and they understand their market, start thinking about, right out of the gate, who really should you be partnering up with? [00:24:00] Who do you think is going to call you in year one, two, three, five, year seven? Because it's going to happen, and, if you can form those partnerships that don't hurt your business but actually accrue to the overall enterprise value, then do it. Whether that is as simple as having product integrations or maybe OEM relationships or staying on their radar screens and cultivating good chemistry with those buyers, that's great because then they essentially have already been able to validate some form of synergies, whether that's economic and or chemistry, with you as the founder versus somebody who's on the other side of the world that they don't really know. That's always a good thing.
The second thing is don't feel super rushed. Get an advisor in M&A. There's a lot of anxiety that occurs in this short period of time, and it's anxiety around the uncertainty. Don, you asked a great [00:25:00] question; when you get this offer and people think, 'Oh my God, if I don't take this offer, I'm kind of screwed. It's not going to be there again'. Well, that's actually simply not the case. I can't even think of 1% that it's been the case. Unless the buyer actually has an alternative target and they're playing you, which they should be, it's okay to take your time.
It's just like, if something bad happens in your family or something really great happens, step back, don't knee-jerk react. Think about it. Sometimes having an M&A advisor to help who's done oodles and oodles of these kinds of things can help you with the right frameworks, making sure you're asking the right questions, and perhaps most important, making sure you're saying the right things - you don't inadvertently destroy value in that process.
The third thing I would say is always be building a great business. My third company I grew to 20 million in revenues and 50% EBITDA margins. We also, in that journey, an 11 year journey in the ad tech space, had seven [00:26:00] M&A offers, including Google and Microsoft.
Brian: And you know what, my two co-founders in that company didn't want to sell. It wasn't because of their egos, they're actually really humble people. They believed they could build a much bigger business and they did. And they dividend more in those years than they would have had if they had sold earlier.
If you build a profitable, rapidly growing business that can also dividend, and you've got a great product roadmap ahead, and elements of strategic unfair advantage, then go for it. If you really are passionate about the business, you don't have to sell.
Don: Yeah, those are great. Those are so profound in many ways just because I remember the struggle. I think the second point you made is also very interesting because we were talking earlier about, imagine you're a first or second time founder and you're talking to several different potential acquirers. You're talking to their M&A team who does this for a living, day in and day out. If you're trying to negotiate with them on your own, having only [00:27:00] done this zero times or once before, that's a disadvantage, right? You could get a multiple by having taken that time and getting some experienced help.
Brian: Yeah, exactly, and a ancillary point here is that it's a very fine balance between being good cop and bad cop. Having an advisor who's had the experience, it's really helpful to have that bad cop because that bad cop doesn't have to live post signing of the definitive agreement with the strategic acquirers and you do, and so you don't want to leave a bad taste in the acquirer's mouth as a seller, as a founding seller.
Don: Yeah. Well, this has been great, Brian, thank you for sharing this story. I've definitely learned a lot . Thanks so much for your time, and I'm definitely going to be following up with you on a couple of more stories, if that's all right with you.
Brian: Yeah, absolutely. No, it's a pleasure to chat.