Four critical points to consider when looking to grow through M&A.
If you’re thinking about growing your company through acquisition, you may have some questions about how to approach such a daunting process.
One of the biggest is “Why?” Why would you take the risk of an acquisition rather than simply continuing your organic growth?
One of our clients is in a mature market with long sales cycles—that is, clients are tied into long-term service contracts. In that situation, since there aren’t a lot of new prospects entering the market and it might be an average of two to five years between bids for the existing service contract, buying another company is a faster path to growth than waiting around and hoping to displace an incumbent provider.
In another case, a client company needed to diversify its offerings, but didn’t want to develop a new product from scratch, especially outside of its existing area of expertise. Acquisition provided a way to get product lines, equipment and experienced workers in one transaction. In at least one case, an acquisition also led to significant cross-selling opportunities.
As your company grows, your clients are likely to grow with you, and you may become eligible to hunt bigger game. Either way, larger clients may need you to go to places where you can’t efficiently serve them without a physical outpost, and it may make sense to buy a competitor there rather than attempt to open your own office in a new territory.
These are just a few basic examples, and there are countless other reasons to make acquisitions. So, how do you go about this process?
Develop a Thesis for the Project
Ask yourself: What kind of problem are you trying to solve with an acquisition? For example, maybe your company has a high concentration of government clients. To guard against a drop-off in agency spending, you might decide to look for clients in the private sector.
Let’s be honest: If you’re like most businesses, you probably have more than one problem that needs solving. Lay everything on the table, but be sure you rank what’s most important and focus on a short list of objectives.
Answer the 5 Big Questions
You’ve already addressed why you want to buy a company when you developed your thesis. Now let’s look at the five other big questions.
Where // This will help you narrow the field a bit. Want to stay in Kansas City? No need to look outside this metro area.
What // “Wave the magic wand” to create a vision of a company that ideally fits your thesis—what does your “perfect acquisition” look like? Think about the likelihood of finding a company with everything you want in your price range and geography. Be prepared to make some adjustments.
Who // Look at listed companies on axial.net, bizbuysell.com or other business-brokerage sites. Consider prospects you already know and find attractive even if they aren’t listed for sale. (Most of the transactions we do are with companies that aren’t actively for sale, but are hoping to be approached.)
Go to the industry associations and look for additional prospects; start by asking them for lists of trade show attendees. Buy lists of companies from Hoovers or Salesgenie and then research them. Check LinkedIn.
When // We find it usually takes six to 12 months to make an acquisition from the time you begin building your prospect list to the time money changes hands. Plan accordingly.
How // Think about how to make credible, confidential outreach to your prospective targets. We find that direct mail via the U.S. Postal Service is very effective. Of course, if you can get a warm introduction to the owner, that’s best.
Try to Set a Valuation Range Early
So, someone responded to your overtures. What now? You need to have some idea of the kind of deal you think makes sense. We find it most efficient to align valuation expectations up front if possible. If the sellers want three times more money than you care to pay, best to know that now.
The numbers are knowable pretty quickly, at least within a range. All the other qualitative assessments will take more time.
With competitors, you may have to spend some time building trust before you can see financial data. To get the ball rolling, tell them you’d be willing to pay X times an average of their last three years’ Net Owner Benefit. You’ll do Y percent cash up front and ask them to finance the rest.
You reserve the right to adjust numbers and structure once you learn more. Maybe you want them to keep some equity. Or you’re OK if they leave after 60 days and never come back. Think about what you would hope someone reasonable would say if they approached you about buying your business.
Have Your Team Ready!
Have your accountant, attorney, banker, insurance agents, M&A professional, key employees, bartender and anyone else important to you in the process lined up and ready to go. Make them part of the early planning. If these key people don’t understand what is going on and what is expected of them, you will waste a lot of money and probably lose some hair. You may also kill the deal over something avoidable.
One last word of advice: The process of acquisition is often not linear and can be very emotional with small-business owners. Be calm, be patient, and trust your gut if you get a bad feeling.