Examples of such threats include:
“We are launching a similar product soon and will crush you.”
This is usually an empty threat. If the large company is so close to launching a product that will crush you, why do they want to buy you? Often, a larger company will indeed have an effort internally that is competitive, but it may be experiencing delays or be under-resourced, executing badly, or simply just not winning in the marketplace. In such a situation, they will approach your startup for acquisition.
In some rare cases, a company may have a product, platform or API that the startup is using. The company plans to enter the market and wants to buy the soon-to-be-competitive startup as a reward to that startup for being in its ecosystem. This allows the platform company to enter its own ecosystem in a way that keeps its platform partners happy. If this is the case, the threat of being crushed may be quite real.
As an entrepreneur, it is important to differentiate between empty threats, a company that is close to launching a product that is truly superior to yours, and a company trying to fill an internal hole or maintain peace with its 3rd party community.
“We will sue you.”
There are a large number of frivolous lawsuits that happen. A larger company may sue a smaller one as a competitive move to try to drive the startup out of its market or to create an M&A opportunity. Some companies will use a threat of a lawsuit to help drive an acquisition.
Often, these lawsuits are baseless. However, if a startup has insufficient cash, it may not be able to bear the legal fees of a lawsuit. Lawsuits also tend to hang over startups, preventing their ability to raise more money or recruit great people.
I think something like 10-20% of the startups I have advised have gotten sued at one point or another. Only one of them ever settled the case, and the rest won the lawsuits or had them dropped. At least in the tech industry, most of the lawsuits seem pretty baseless.
“We are going to cut you off.”
Some startups are dependent on larger companies for data, distribution, or other key aspects that drive their business. The larger company may take advantage of this by offering to cut off the startup from very service that allows it to exist. Microsoft was notorious at one point for making its OS poorly compatible with apps that ran on top of it, once the app maker turned down Microsoft’s acquisition overtures. This led to a situation in the 1990s where every VC would ask a startup about their Microsoft strategy, and how they planned to get around Microsoft.
What to do
First, take a deep breath. Realize that the situation your are in is more common then you think. Usually, the reason a large company wants to buy your startup is a lack of resources, knowledge, or momentum, to truly compete with your business. Alternatively, you may have an asset that will cut the time or effort the acquirer needs to build a relevant business. Either way, you need to determine how much of the threat is bluster versus a real threat to your startup.
As a startup being threatened by a larger competitor, you should spend time with your investors, advisors, and potentially legal team to think through the true threat. In some cases the right decision is indeed to sell or to change direction to a product that they can not derail directly. But more often then not you should keep going. Most threats turn out to be baseless. Work through the real threat provided by the larger company before giving up or caving in.