What creates distressed digital companies?

For the longest time, I was puzzled.

How do SaaS companies, Digital Media companies, etc end up going bankrupt/closing down?

In other words, how do you burn through so much money when you have no real Costs of Goods outside of employees and servers?

The answer, it turns out, is Growth At Any Cost (GAAC), brought to you by the era of low interest rates.

I didn’t really get it until I started working on distressed companies. There are line items that just make no sense, and entire business models that were never profitable, but funded by a combination of VC,  irrational corporate exuberance and empire building in publicly traded companies.

GAAC shows up differently depending on the causes (VC funding vs Corporate Acquisition), but the symptoms are all the same. You end up spending more money then you have.

Here’s how it works in VC:

  1. Startup raises lots of money.
  2. VC wants to see lots of growth.
  3. Startup pays way over cost for customer acquisition.
  4. VC no longer wants to give Startup more money
  5. I get an email

A similar story in VC in the Not Invented Here problem which causes both technical distress, mental health issues, and also financial ruin.

  1. Media company wants to be VC funded
  2. Media company builds wildly insane tech stack, hires a hundred developers, and creates their own CMS or shopping cart or Learning Management System or video system instead of using highly scalable and super cheap off the shelf software.
  3. From here just follow the regular VC flow chart.

On the Publicly traded sided, the steps look like this

  1. VC backed Company needs to exit so Pension companies will keep giving money to the VC.
  2. VC company hires Investment Banker.
  3. Investment Banker pitches someone in Corporate BizDev
  4. Corporate BizDev wants to make a mark
  5. Someone writes a memo about synergies and combined EBITDA
  6. Board Meetings are held
  7. An LOI is signed
  8. Due Diligence is done.. Although frankly I never understood the need if you’re buying a company that’s losing 5-15 million dollars a year.
  9. Either a pandemic hits, the overall corporate EBITDA drops affecting EPS, or interest rates rise, but suddenly all of these money losing divisions have gotta go.
  10. I get an email

The bottom line is there’s a lot of zombie and soon to be zombie companies out there or running as divisions in larger companies. As the tide comes out, we’re going to see who’s wearing a bathing suit and who’s been swimming a flagrante.

 

 

 

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