Three key points for maximizing the value of acquihires

While the term "acquihire" has yet to been formally recognized in the Oxford English Dictionary, it is widely used in the corporate and venture capital lexicon. Simply stated, an acquihire refers to the acquisition of a company primarily to acquire specific employees or groups of employees of the target company.

The inherent value of an acquihire transaction does not lie in the technology or services provided by the company being acquired. Instead, it is found in the expertise and synergy of the team of employees, their collective innovation potential, and their market share or goodwill. The opportunity to acquire the integrated talent of an entire team is the “lightning-in-a-bottle” element that makes an acquihire so attractive.

An acquihire can, however, fail. Buyers may find that, for an array of reasons, an acquired team may not produce the expected results – most notably, if team members choose to move on to new ventures.

Most potential issues that tend to arise following an acquihire can be avoided or minimized through a properly and strategically structured transaction. This includes giving careful attention to the drafting of the various employment agreements and compensation structures for the acquired team.

Here are three key points:

• Retention payments. Buyers should think strategically about how they structure both employment-based compensation schemes and the payment schedule for acquiring the target company. With the appropriate structure, compensation arrangements can motivate newly acquired teams to remain with the company and achieve desired results. For example, buyers may consider retention payments tied to the achievement of specific milestones, as well as the length of time the acquired team or its individual members remain employed with the buyer. Additionally, buyers can be creative in structuring the purchase price payment schedule by utilizing earnouts and other forms of deferred payments. Incorporating time-based incentive compensation arrangements can further support the integration of the acquired team, helping them become a fully functioning part of the buyer's business.

• Restrictive covenants: A properly structured acquihire arrangement enables a buyer to obtain restrictive covenants that the founders and other key employees of the acquired team who own a material portion of the business have to abide by. In states like California, employers are generally prohibited from obtaining non-compete agreements for new hires. The limited exception to the broad ban on non-competes in California allowing the acquiring company to enter into restrictive covenants agreements with the acquired employes does not extend to those acquired employees who only own little to no percentage of the business. Even in states that permit non-competes in the traditional employment context, such restrictions are subject to strict judicial scrutiny. By contrast, non-competes entered into in connection with the sale of a business are typically subjected to less scrutiny by the courts. It is worth noting that in an acquihire, buyers may sometimes wind down the acquired business because the impetus for the acquisition is the value in the acquired team, rather than the ongoing business operations. Before proceeding with a wind down, buyers should carefully consider the potential impact on the enforceability of any restrictive covenants.

• Individualization. Avoid standardized cookie-cutter employment agreements. Because the value of an acquihire transaction is primarily driven by the talent being acquired, employment agreements and compensation packages should be individually negotiated and carefully tailored. This approach helps ensure that acquired employees do not feel like they are simply being absorbed as generic new hires. An individualized employment agreement demonstrates that they buyer recognizes and values the unique contributions that each team member brings to the organization. Additionally, the synergy and effectiveness of the acquired team often stems from the innovative and dynamic startup culture of the acquired company. This culture is frequently reflected in employee policies such as schedule flexibility, remote work options, and paid time off. Instead of immediately integrating the acquired team into the buyer’s existing structure and policies, consider making appropriate exceptions to policies or processes. It may also be beneficial to stagger in changes to compensation or fringe benefits.

Failing to understand the unique characteristics of your acquisition's human capital could significantly reduce its value to your business and may even cast doubt on the overall wisdom and value of the transaction. However, by focusing on a few key considerations during an acquihire, a buyer can optimize the potential benefits and outcomes for its business.