Strategic Acquisitions Strategies for
your business so you
By: Theodore P. Burbank, FCBI
Growth through acquisition should not be considered an option reserved solely for large or Public Companies. Small and mid-size businesses that opt to grow by acquiring other companies, rather than growing one new customer at a time, can gain benefits in addition to increased sales and profits.
Demographics - The maturing of the Baby Boom generation, many of whom own their own businesses, will increase the number of owners willing to consider selling to an historic high.
Financing - Money is available to finance small and middle market acquisitions. Banks and non-traditional lenders are aggressively pursuing acquisition lending at a level we have not seen in twenty years. Cash required to do a deal is at an all time low.
Pays the Bills
Measures the Size of Your Pile
What follows is an overview of Public Company strategies to grow profits and value through acquisitions and how to adapt these strategies to private and family businesses. Although the topic may seem technical and complex it is really quite basic and straightforward.
We know a Public Company's Price/Earnings Ratio measures the amount investors are willing to pay for $1 of company earnings and that a P/E ratio of 15 for a well-run company is not unusual. Consequently, company BIG with 100 million dollars of earnings and a P/E Ratio of 15 has a value of 1.5 billion dollars. We also know private company P/E Ratios are much lower than those of Public Companies.
#1 - Acquire companies with a smaller P/E ratio than yours
Increases in Value Calculation -- SMALLER's earnings are now worth 15X instead of 10 times earnings resulting in an immediate increase in value of 5X earnings or $50,000,000 (5 times $10,000,000) over and above the value paid by company BIG.
#2 - Reduce expenses through economies of scale
Increases in Value Calculation -- Company BIG is able to eliminate 1 million dollars of redundant expense - $1,000,000 X 15 = $15 million dollar increase in value.
#3 - Acquire according to a strategic plan
Increases in Value Calculation -- Every point increase in company BIG's P/E ratio equates to 111 million dollars of added value (original $100 million in earnings plus addition of SMALLER's $10 million plus $1 million in reduced expenses times 1).
Calculation of Increased Value to Shareholders:
In the above example, company BIG's acquisition of company SMALLER not only has increased earnings by $10 million but has increase company BIG's value as follows.
This CEO has made the kind of a deal that makes shareholders happy.
No wonder there is so much M&A activity in the marketplace. A well conceived acquisition should produce wondrous results. These dynamics are not reserved exclusively for Public Companies. Private and family businesses can and should take advantage of the opportunities presented by growth through acquisitions. We will now apply these principles to smaller businesses and analyze the results.
Building Strategies for
Private companies can employ the same three strategies used in the above Public Company example given an understanding of a few basic principles.
Businesses with essentially identical earnings, therefore, can have widely diverse values
Ball" Principle - Non Financial
Armed with a basic understanding of the ground rules we can begin to formulate a strategic plan to grow and build wealth through acquisitions. Table A summarizes P/E ratios, level of earnings, definition of earnings and management style by company size. We can use Table A as reference as we develop our plan.
Areas of opportunity are:
Assume for this example that you own a Printing company with annual revenues of 10 million dollars. Your specialty is high speed black and white 81/2 X 11 with some spot color. You produce manuals and provide forms management services for the computer industry and others however you serve predominantly high tech companies.
You develop a plan to acquire a smaller printer with a quality sales and work force serving a completely different customer base. You decide the company should provide the color and graphic design capabilities your firm lacks and the company should represent opportunity for improvement through upgraded systems, controls and stronger management.
Once your list of possible acquisitions is completed the fun part of mailing, calling, visiting and touring, negotiating and finally completing the transaction can begin. You can attempt doing the job yourself or you can engage professional intermediaries to act as your in house M&A department.
Transaction and the Benefit
acquire a firm that fits your criteria with $3 million in revenues and an
Adjusted EBIT of $400,000. You pay
4 times Adjusted EBIT or $1,600,000. Improved
systems and controls plus elimination of redundant expenses increased income
100,000. After the acquisition the
combined firms develop a P/E multiple of 10.
Increased in Size of Pile (Value)
in management, capabilities, sales force and customer base plus the ability to
cross sell printing should further enable the combined company to increase
sales, profits and value even further.
calculates an increase in value of the $750,000 purchase as follows: Purchased
earnings @ $150,000 plus added earnings of $65,000 from work previously
outsourced produces $215,000 in earnings to be added to Combined company
Increase in Value
acquisition added $215,000 in earnings but produces an increase in the size of
the pile (value) by $1,400,000.
of original company
You may be wondering how long would it take to achieve these results.- less than a year with professional help. Do not be discouraged because your business is not generating 10 million in revenues. The principles we have outlined work regardless of the present size of your business although the larger you are the easier it is to achieve dramatic results.
Perhaps you are one of the thousands of "Baby Boomers" who in several years will be at the usual retirement age. You have built a fine company and perhaps the thought of maybe selling it someday is distasteful. Maybe it would be fun to take a page out of the Public company CEO's playbook. Focus on value and grow your business so you can leave in style with a pile.
Mr. Burbank is President of Lighthouse Financial, LLC and since 1979 he and his associates have participated in more than 2,000 business transfers. He is the author of "In & Out of Business . . . Happily" - "Buying a Business Made Easier" - "VALUware 6.0" Business Valuation Software - "DealMaker 4.0" Business Acquisition Software - "DealMaker docs" Transaction Documentation Software all published by Parker-Nelson Publishing. In addition he is a contributing author to "Merger and Acquisition Handbook for Small and Mid-Size Businesses" and "Business Valuation Handbook for Small and Mid-Size Companies" both published by John Wiley and Sons. Ted is available for private consultation, valuation and acquisition assignments. He may be reached by telephone: 508 794-1200 or by email: firstname.lastname@example.org
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