Buyer's Motivation

Buyers have different motivations for seeking acquisitions and a better understanding of these motivations can enhance your position. There are financial buyers and there are strategic buyers. Typically a financial buyer is one that is in the industry and has a presence in the same market that you are currently operating in. There are looking to do acquisitions for reasons that are primarily financial, hence a financial buyer. They refer to this as “tuck-in” or “bolt-on” strategy. Simplistically they want to add tuck or bolt your customers into their existing customer base and, over time, stripping out all the redundant costs.

Motivations of the financial buyer:
  • An earnings stream.
  • Creating operating synergies by increasing density of existing customer base therefore becoming more efficient with their existing labor and truck costs.
  • Realizing cost efficiencies by eliminating or “rationalizing” G&A, marketing and selling, and other redundant costs. They will only need one office warehouse, one Office Mgr, one set of yellow pages with result being more customers absorbing the fixed overhead and other costs.
  • Increase the talent pool. While a buyer may strip out what they view as redundant head count, but given the employee turnover in certain industries at all levels, the addition of talent is important. The buyer can generally produce the necessary return the customers or they better at least, but there are instances when acquiring talent is as important as the customer base.

A strategic buyer is one that is looking to acquire for reasons other than ones that are purely financial in nature. Typically they are looking for an acquisition to serve as an entry point for launch into a market thus their primary motivation is to acquire a platform for launch or expansion. A strategic buyer may also be looking or to acquire unique intellectual property; perhaps a competence or proprietary knowledge that they do not have. The potential for future value creation may be more important than acquiring an existing earnings stream.

Motivations of the strategic buyer:
  • As stated buyer might utilize acquisition as a strategy for market entry. A “turn key business”; existing infrastructure, people and knowledge resources, established process, etc. are of vital interest to the strategic buyer.
  • Expanding the footprint of the buyers existing business into a new DMA or marketplace.
  • Acquire a unique competence to support market entry or dramatically improve the existing business.
  • Another strategic motivation might be to prevent the acquisition of target by a competitor in the same industry thus preventing that competitor from gaining an advantage in a particular market or DMA.

The significance of understanding the difference in buyer’s motivation is that there are times when a strategic buyer may be willing to pay a premium. The supporting logic would be that a strategic buyer may anticipate creating above average returns; contrasted to the average returns perhaps anticipated by the financial buyer.

Understanding What Buyers are Looking For

There is specific information that the potential buyer needs to facilitate a decision of whether or to buy or not and also help them establish a valuation and acceptable offer range thus what they are willing to pay. Given that judgments formed from review of this information absolutely drives a "go/no go" decision and establishes what a buyer will, the more detail made available and, more importantly, the clarity of that detail, more readily enables the buyer’s assessment.

  • Understanding the financial performance and key performance drivers
    • Revenues of the company. This may seem basic but unfortunately there are many small business owners that can’t come up with this number quickly. The prior year’s final number. If an owner needs to get with their accountant to come up with such basic information, this may immediately prejudice the potential buyer’s judgment regarding how the business is managed. Ideally you should be able to come up with revenues from different perspectives. Know last year’s number, and to the extent you know or can make available the top line history of your business quickly and accurately if critical. An explanation (with candor) of underlying reasons behind historical revenues trends, both up and down is extremely helpful.
    • Candor is critical. Optimizing what a buyer is willing to pay can not be accomplished with “smoke and mirrors”. Skillful due diligence will typically uncover whatever an owner may be less than forthright about. The result of uncertainty from lack of clarity and/or candor, the seller will simply be offered less based on a “risk adjustment” or even worse, the potential declines to move forward at all.
    • Transparent customer information. Buyers will need to understand what drives revenues such as active customer count, pricing revenue per customer, etc. They will try and establish revenue per customer and how that metric compares either their existing business or an industry standard. The buyer will also want to clearly differentiate between what revenues are recurring, thus predicable, and which sources are more one time in nature. It is also important to describe what features and services are included in the standard and enhanced program offerings and which are offered more “ala carte”. Again clarity and accuracy are important as the “gray” or uncertainty can result in a risk adjustment. The seller needs to point out historical trends, elements of service and quality differentiation, pricing history, or any other aspect that may not be readily apparent within a sea numbers and reports.
    • EBITDA. The acronym stands for “earnings before interest, taxes, depreciation, and depreciation” a simple proxy for “pre-tax cash flow”. This will looked at from two perspectives; one, what the seller reports on the tax return, financials printed out of Quick Books, or from an accountant compilations. Keeping in mind that a business owner will seek to minimize taxable net income, the reported profit number is likely not a true reflection of the earnings potential of the business. The buyer understands this so the seller needs to help the buyer estimate an “adjusted” or “normalized” EBITDA number. This is essentially taking the reported profitability of the business and adds to it all the “privileges of ownership” and expenses of a one time, non-recurring nature. For instance, “privileges of ownership” might include a country club membership, a spouse’s car, the bonus and compensation paid to owner above what a buyer would pay. If ownership pay himself 100K and the market pays 50K, that would result in a $50K adjustment. In addition to the disclosures of this type, expenses charged to the business that are one-time or nonrecurring in nature, such as inventory, prepaid insurances and advertising, fines settlements, investments or improvements in the business (software or equipment) purchases need to be included as adjustments as there is an important reason for their inclusion for valuation purposes.
  • Non-financial attributes a buyer may consider. These are things that may or not show up in the reports or the tax returns but they are extremely critical in a buyer’s assessment of risk and the likelihood that an acquisition of your company will create value for his company.
    • Reputation in the market place. Clearly a buyer is not going offer you much or even make an offer to purchase your company if it is not clear how combing the two will be additive to the future financial performance of the buyer. The most objective measurement of stability is customer retention from year to year. While customer retention is a financial attribute and certainly it is at the end of the day. Companies can at least for the short term produce acceptable results with lower retention rates, but clearly retention over time is the best indication of what retention will be in the future and if the seller delivers on it’s value proposition to homeowners. Having clarity on this measure is very important. Reputation is more anecdotal and hard to create and easy to destroy as they say. If a company is solid in the marketplace often buyers will know that, but if there have been articles in a local newspaper or if a community has recognized your company certainly make this known.
    • Stability in the workforce. If there is abundant management, sales, and customer service talent in the organization, it absolutely needs to be made known to the buyer. If provable then a prospective seller should leverage to his advantage. A stable and tenured workforce is likely the most tangible measure of the culture of your company. The impression of a stable “turn key operation” provides a great deal of comfort particularly to a strategic buyer.

One last point; a financial buyer may consider a company of any size since they are simply going to tuck the business into their existing business. A strategic buyer may be looking for a larger business, perhaps a business. The larger the business perhaps the greater market presence and once the business is re-branded the assumption is that the buyers brand has immediately more impact. Combined with the previous point, there is the assumption that a larger business is a more likely a stable business. There may be a greater talent pool to grow from as the larger company may have a non owner GM in place and if the owner moves on then that gives the buyer more management options. Lastly and probably most important reason is that acquiring a larger business potentially allows the buyer to bring a new operating unit on-line and not have to absorb losses on their income statement that would typically be associated with a start-up location.