

Photo by psiaki

This is final installment of a 3-part series covering my acquisition of HitTail. I’d originally planned on a 2 part series, but when parts 1 and 2 went to the top of Hacker News I received so many questions that I decided to add this prologue to answer them.

Every question below has been asked via email, comment or Twitter over the past four weeks.

Could you talk a bit about the diligence you did during the acquisition? How long into the discussion before you commenced diligence? What did it entail and how did you verify what was told to you?

Due diligence is the most important part of the process because it dictates whether you should move forward with the acquisition, and at what price.

As such, due diligence consumed the majority of the two-month negotiation period between myself and the seller. I asked for all of the following information:

Monthly revenue

Monthly expenses

Number of paying customers

Number of free users

How many customers cancel each month

Monthly unique visitors

Number of trial sign-ups per day

Number of new paid accounts per month

The problem with the list above is that it’s long so as a buyer you need to take it slow and not blast the seller with it all at once. Once the seller indicated a sale might be possible I asked for the first 3 from the list above, asked for a few more in a subsequent email, and so on.

In addition, only some of the information above is verifiable, and we did that with screen shots and exports from Google Analytics. At some point I had to trust the seller, and I gained trust that she was legitimate fairly quickly after learning more about her background, and Skyping with her.

Bottom line: it’s pretty easy to come up with a laundry list of things to ask for. The trick is narrowing that list to the point that the seller will tolerate it. I’ve had several negotiations end with the seller indicating they don’t have the time or desire to dig up all of the data I’ve asked for. At that point you have to make a decision to reduce your list or shut down negotiations.

The point of the above data is to construct a picture of how the business works, where new customers come from, and calculate a customer lifetime value (LTV). The LTV number was critical for me, as it dictated what kind of marketing approaches I would be able to use and still turn a profit.

Details on which costs you chose to attack first (technical debt vs. free subscriptions vs. UX) is something all web businesses should think about.

HitTail had some stability issues when I acquired it – it was running on old hardware and drives would fail every so often. So my priorities from the start were in the following order:

Stabilize Plug the marketing funnel Spread the word

Stabilization

Stabilization involved moving all code and the 250GB database to a new server to ensure high uptime and improve performance. This step took was more involved than I had originally anticipated, but with the help of a contract DBA we planned, prepped and moved during the first 3 weeks I owned it.

During this time I was also fixing bugs like crazy: I fixed or removed around 25 broken features from the app. Developers in the audience will cringe, but for speed’s sake, and because the app was already limping along, I made all changes live on the server in the production environment. I’m thankful to be past that stage.

In fact, the day we were scheduled to move to the new server one of the existing servers failed about 8 hours before the planned move. No data was lost, but it really was just in the nick of time. All of the trouble I’d had sleeping for the past three weeks was true – these servers were just barely hanging on.

Plugging the Marketing Funnel

Once the app was stable and the major bugs fixed there was work to do on the marketing funnel. Essentially, the website was in bad shape both visually and in terms of conversions. Most visitors arrived at the site and wandered around for a while, then left. There were trial sign-ups coming in, but not as many as I would have expected based on the traffic levels.

So I began a complete re-design of the site with a high-end designer named Ryan Scherf, and I worked with a contract developer to have the new design applied to the existing 200 or so pages. Then I went through by hand and added calls to action to the most popular pages. The problem was that people arrived at the site, read an article, and never came to the “core” of the site to learn more about HitTail. I added prominent calls to actions on the most visited pages to funnel people into the sales flow.

Finally, I added scheduled tasks to disable trial accounts after 30 days (before this you could keep a trial account virtually forever), and to email trial users during their trial period, checking in if they haven’t installed their code, and updating them on their account status as the end of the trial approached.

This effort raised several key metrics, such as the percentage of trial accounts that install the tracking code – it went from 25% to around 75% – as well as the percentage of visitors who sign up for a trial in the first place.

Spreading the Word

This is the marketing effort I began around 6 weeks ago based on the 11-page marketing plan I’ve put together over the past 6 months. This effort is still very much in progress; more to come in future posts.

If you can go over the valuation methods each side used, that would be very helpful to know, even if you don’t share the cash figures involved.

I’m not sure what method the seller used – I would imagine I would use the “get as much as you can” method. But my initial offer was based on a multiple of monthly net profit – in the 18-24 month range. Typically I would stick in the 8-14 month range.

I offered a bit more than I typically would given the scope, reputation, and press mentions of HitTail. The seller came back at 5x that amount, and we settled on 1.5x my initial offer and I offered to cover legal fees (around $1500).

I would love more information about the acquisition process.

The order of events was pretty straightforward:

I send a cold email to seller (and assume I will never hear back) I receive a reply from the seller We begin some email chit chat to find out more about each other I ask for some numbers She asks me to sign an NDA, which I do I receive the numbers, and over 2 or 3 more emails ask for additional info and clarifications Based on these numbers I make an initial offer We email back and forth for 4-5 weeks of price negotiations We settle on a price I contact my lawyer to write up a contract and patent transfer doc We sign everything I open escrow in escrow.com and wire the funds to the escrow account She provides server logins and a slew of additional info, and puts the domain into escrow I take 3-4 days to verify everything, then approve the deal at escrow.com Funds are released to the seller and the domain transfer is completed by escrow.com I stay up until 2am several nights in a row fixing bugs and stressing that the servers are going to die J

I’d love to see something about the mechanics of executing the deals without getting burned. Stuff like finding contracts, escrow, etc…

This depends pretty wildly, but in the past I’ve used the Flippa website sales contract, as well as a template I found online (which is not a good idea). Given the size of this one and the complexity of the assets (did I mention there was hardware, software, and a patent application involved?) I hired a lawyer with experience in IP website acquisitions to draft up a custom agreement.

For escrow I used escrow.com. The site looks dated but they are the only site I use for this kind of thing.

How did you find HitTail?

I’ve been a customer for 6 years and saw the service having trouble. It fit my criteria of a SaaS application with a dedicated fan-base (some might say product/market fit) in need of technical and marketing work, and given the LTV I knew there were many avenues I could use to market it profitably.

Can you say how long you estimated it would take, given your purchase costs and ongoing expenses, to make the acquisition profitable?

I typically shoot for 12 months and more often than not break even before that (not including my time investment). My best acquisition in terms of payback was around 4 months.

For HitTail I did not map out a specific schedule, but it looked like best case, hitting my growth numbers, I would pay back total expenses (excluding my time) in 9-12 months. Worst case was 24 months.

It’s too early to tell how that’s going to pan out, but given that I’m 5 months in and just finished the revamp I’m pretty sure I’m not going to make it back in 12 months.

How did you make the numbers work? As I understand it they had a site that they were putting virtually zero effort into, so they must have wanted a pretty hefty multiple of the annual income. Even if that income was declining, it was still taking zero effort to generate.

It wasn’t zero effort – the seller was handling ongoing email requests for support, trying to get new customers setup, and hating life when the site would go down. The site was not on auto-pilot and although there was no new development or marketing, it required ongoing time and headache to keep it around.

You, on the other hand, had to have assumed you could make the revenue grow significantly via active investment, right? You did mention that [some bugs were] leaving a ton of data and/or money on the table, but you couldn’t have known that ahead of time, could you?

Judging by the existing traffic, conversion rates and how poorly the funnel appeared to be functioning, I had a solid idea I would be able to incrementally improve many steps of the funnel, such as:

Making the site more appealing and easier to navigate

Providing a clear call to action on every page

Providing a clear path to purchase

Changing the sign-up form from 15 fields to 6

Asking for credit card up front

Offering free tracking code installation

Touching base with trial users during their trial

Increasing traffic

Each of the above improves a small step of the funnel, but together they’ve had a notable impact on the number of new sign-ups.

Perhaps you could explain how you came to your opening offer — did you literally email them and say hi, I’d like to buy this and here is my estimated offer, or did you get some numbers first?

I emailed an introduction and attempted to build credibility that I was a serious acquirer. The seller has to know you are serious or they won’t spend time pulling numbers together (or divulging their proprietary data).

Once she expressed interest in a potential sale I signed an NDA and she provided numbers. Only then did I tender an offer.

Conclusion

If this series has been interesting, stick around (RSS feeds are cool).

In my next few posts I plan to dive deeper into some of the specific changes I’ve made to improve the marketing funnel, talk through why I let the patent application expire, and marvel at how everything that could have possibly gone wrong during the server migration, did. Stick around.