Big Tech's Guide to "M&A" in AI
Hire and License is the new Acquire?
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Hi friends,
Over the last six months, big tech companies seem to have found an innovative way to acquire/acquihire cutting-edge AI technology and talent without drawing the ire of antitrust regulators. Instead of outright acquisitions, they’re hiring the founders and key employees from AI startups and licensing the technology from what’s left of these companies, allowing for some specific earn out/return to investors in the startup over time. This strategy leaves these startups as effectively shell entities, but operating independently.
We’ve now seen this happen in three cases over the last 6 months:
Inflection by Microsoft
Adept by Amazon
Character.ai by Google
One may be an anomaly, two might be a coincidence, but three? That's definitely a trend.
The Playbook
This “M&A” strategy typically works as follows:
[Optional] Initial Investment: Big tech companies may first invest in these startups as part of their prior funding rounds, though this is not a requirement
Talent Acquisition: The big tech company hire the founders and key employees at these startups, picking and choosing the talent they want. Microsoft hired >80% of Inflection AI’s team, Amazon hired 66% of Adept’s team, Google hired a smaller fraction of Character AI’s team.
Technology Licensing: Instead of acquiring the entire company, the big tech firms licenses any to all of technology from the startup, in an exclusive or non-exclusive license. This allows them to pay investors some agreed upon return over time. In the case of Microsoft, the licensing fee was ~$650M over time.
“Shell” Entity: The startup is left with a significantly reduced team and operates as a somewhat of a shell entity, still continuing to operate but in a more reduced capacity.
Regulatory Evasion: By not fully acquiring the startup, big tech companies sidestep regulatory hurdles and antitrust concerns, at least for now, continuing to consolidate AI talent. Regulators have started to investigate the Microsoft x Inflection deal, however.
Inflection AI
In March 2024, Microsoft hired most of Inflection AI’s (which they had previously invested in) key personnel, including co-founders Mustafa Suleyman and Karen Simonyan. Microsoft licensed Inflection’s AI models for $620 million, paid out over time and paid an additional $30 million to waive legal rights related to the mass hiring. In the case of Inflection, Microsoft hired most of their 70 employees. This move allowed Microsoft to bolster its AI capabilities while avoiding a direct acquisition, which could attract regulatory scrutiny. While the company in theory continues to operate, it is basically a shell entity at this point.
Adept AI
Amazon followed a similar approach with Adept AI in early 2024. Amazon hired co-founder and CEO David Luan along with other key team members, including Augustus Odena, Maxwell Nye, Erich Elsen, and Kelsey Szot, in total hiring about two thirds of their employees. Amazon also secured a non-exclusive license for Adept’s technology, including AI models and datasets. This provided Amazon with advanced AI capabilities while leaving Adept to operate independently with a much-reduced team under a new CEO, Zach Brock.
Character AI
Last week, Character AI, founded in 2021 by Noam Shazeer and Daniel De Freitas saw a similar transaction happen. Google rehired Noam and Daniel, who had originally left Google to start Character AI. Alongside the founders, several key researchers from Character.AI also joined Google. This move included a non-exclusive licensing agreement for Character.AI’s technology. Additionally, Google bought out Character.AI’s investors for $88 per share, about 2.5x higher than the recent funding round that valued the company at $1B. Character.AI will continue to operate under new leadership (with the General Counsel promoted to interim CEO). Compared to the others, Character AI still seems to have more of its employee base intact for now.
Key Stakeholders and Their Impact
Big Tech Companies
The value to big tech is that they are able to strengthen and bolster their AI capabilities in a pretty quick manner by picking and choosing the employees they hire, in a way that's relatively cost-effective for them and gets around antitrust for now.
In some ways however, it is worth noting that these are certainly not “cheap”.
Microsoft paid a licensing fee in the ~$650M range, and probably hundreds of millions more to the employees it hired (in compensation packages)
Google similarly likely bought out investors in Character AI for >$600M by itself, and then paid more for the key employees it hired, and may also pay a large licensing fee.
Investors
These aren't necessarily great outcomes for investors in the startups, but in some cases they may be quite good, especially for earlier investors.
Inflection AI: Investors saw a return of 1-1.5x on their capital, based on the licensing fee paid out over time.
Adept AI: The exact returns are unclear, but investors likely saw a partial return on their investments, again through licensing fees paid out over time.
Character AI: Investors will be bought out at $88/share, representing a price of 2.5x per share over the price in the previous round which valued it at $1B. In some ways, to investors, this represents a $2.5B exit (and over $600M paid out to investors), which is a quite meaningful exit, particularly in this current environment.
Founders and Key Employees
For the founders, this is a pretty good deal all things considered. They move on to key critical roles at the big tech companies by which they are acquired and make out pretty well financially.
Infection AI’s founder Mustafa Suleyman now leads the Copilot efforts at Microsoft, and most of the employees at Inflection were hired by Microsoft.
Adept’s founder and CEO David Luan leads a number of key AI initiatives at Amazon, and many of his key team was also hired by Amazon. About 20 of the employees stayed over at Adept.
Character AI’s founders Shazeer and De Freitas are joining Deepmind’s research team, along with some key employees. Most of the employees are staying at Character AI though.
Other Early Employees
While it’s not a bad deal for the employees that are hired by the acquirer, to the extent that the company remaining is largely a ghost company, those that stay over get the short end of the stick.
Unlike the founders or other key employees who are hired, they get no large compensation package, and unlike the investors, they get no payouts on the surface at least.
Now, for some of them, it opens up the path to being either interim or actual CEO or C-suite at the remaining company, so that’s maybe not too bad for them either.
Antitrust Regulators
While one can argue that these startups are not really that relevant in the grand scheme of things and that the transactions may not have even gotten blocked, it does at least on the surface seem that at least one of the reasons to structure it this way is to skirt Antitrust.
And so naturally, antitrust regulators probably aren’t too happy with what is going on here.
Both the UK authorities and the FTC have launched formal investigations or probes into the deal, but they may have a hard time providing that hiring people is anticompetitive given a real merger did not take place.
Conclusion
It will be interesting to watch how regulators actually try to react and respond to these situations, and if we continue to see more of these AI startups get acquired in this way by big tech. Which startup will be next?
Don't employees get stock options? Why do you say "unlike the investors, they get no payouts on the surface at least" -- do these acquirers only make preferred stock holders whole?