Potential regulator challenges to Big Tech M&A may have far-reaching consequences for the tech ecosystem

• M&A deals involving large tech companies may get harder as US regulators ramp up scrutiny.
• If regulators increase scrutiny, it could deter other large tech companies from buying startups.
• Experts say if late-stage startups have fewer exit options, it makes it harder to keep innovating.

US regulators are cracking down on Big Tech's bids to swoop up startups — and that could have huge implications for the broader tech M&A scene.

The US Department of Justice is planning to block Adobe's $20 billion proposed purchase of the design software startup Figma, according to Bloomberg. That reported challenge also comes on the heels of the US Federal Trade Commission's scrutiny of Microsoft's $69 billion deal to buy Activision Blizzard. And it's not just US regulators casting a critical eye upon these deals: UK and European Union officials are also cracking down on Big Tech M&A. 

If regulators seek to block acquisitions more aggressively, that could further dull the appetite for other large corporations to seek out such purchases — and thereby make it harder for smaller companies to see viable exit options. That in turn makes it hard to attract talent,  keep growing, and could ultimately have ripple effects on innovation in the tech ecosystem, lawyers, analysts, and investors told Insider.

"There's been a lot of political pressure building up on just big tech in general," said RBC analyst Rishi Jaluria. "It's just going to take a longer time for deals to close."

Preparing for tougher M&A battles

Large companies are already bracing for more challenges to potential deals. Stephen Amdur, a tech m&a lawyer at law firm Pillsbury Winthrop Shaw Pittman told Insider that he is advising clients, mainly buyers, to build in stronger protections in order to safeguard them in case the deal falls apart.

For example, Adobe faces a $1 billion fee if its acquisition of Figma doesn't go through. Although buyers may want lower fees and looser commitments due to the regulatory environment, sellers will be less inclined to agree to a deal like that, Amdur said. 

"A busted deal is very disruptive on a target company," he said.

Yet acquirers may be disinclined to agree to such hefty breakup fees in their offers, said Zach DeWitt, a partner at Wing Venture Capital.

A longer process also means more uncertainty for all the employees of that startup. One of the perks of joining a startup is getting stock options in the company, which they can convert into shares — and eventually cash — when a company goes public or gets acquired.

But with a dormant IPO market and more uncertainty around M&A, there may be less incentive to work at a startup, which could eventually make it harder for such companies to recruit and retain talent, Jaluria said.

More challenges to proposed tech M&A deals may also mean that the pool of potential acquirers shrinks. If large corporations are deterred from strategic M&A, startups may turn more to private equity and other buyout firms for an exit, said Andrew Sherman, a partner at the law firm Brown Rudnick. 

That's not necessarily a good thing for those startups, he added: "That's going to affect the terms and valuations, as well as the growth possibilities down the road."

Fostering innovation rather than hindering it

Some lawyers and tech analysts also make the argument that acquisitions by tech giants can actually offer startups more resources to grow.

"The classic criticism is that large companies are buying small companies so that they can shelve the technology and eliminate a competitor," Sherman said. "I don't think that's as true as the myth would portend."

Microsoft's purchase of LinkedIn in 2016 is a prime example of this, according to Jaluria. 

"LinkedIn was mainly an HR tool when they got bought and now has become a big sales tool that a lot of salespeople use. It's become a great marketing tool," Jaluria said. "I would argue LinkedIn is a better company today and doing better under the Microsoft ownership than it would've done on its own."

Others argue that M&A is actually one of the critical factors driving tech innovation. IPOs and acquisitions usually result in payouts to investors, founders, and employees, DeWitt of Wing Venture Capital said. Those people then invest in more startups. 

"It's part of the flywheel, those liquidity events," he said. "I'm a bit concerned at what the DOJ is saying."

Of course, there are cases where a large tech company seeks to buy out a smaller, more innovative competitor because it is scared of getting displaced.

That will be the key issue should the DOJ challenge Adobe's purchase of Figma, said Michael Carrier, a Rutgers Law School professor and antitrust expert. 

"If this is viewed as a 'horizontal' merger, courts are more likely to uphold a government challenge because the merger removes a company from the market," he said. "If it's a 'vertical' merger where the firms don't compete, it's more likely to be upheld."

Figma and Adobe say they don't directly compete now but have had rival products in the past. Adobe has publicly said that its XD product, which competed with Figma, has flopped.

Ultimately, preserving innovation should be regulators' priority, lawyers and analysts told Insider. 

"There has to be the hope and dream of selling to a larger tech company some day," Sherman said. By making that more challenging, he added, "you're creating a ripple effect through the ecosystem that will quash innovation."