I just wrapped up a week in Detroit where I presented at an industry event organized by a major paint manufacturer. I discussed growth strategies in a consolidating industry. We talked about industry evolution and ways to increase the value of your business by taking advantage of the same trends and using the same corporate tools as the large consolidators. It was a great event made even better that I met a number of subscribers face to face (a few special acknowledgments are in the last paragraph).
For all of the negative press Detroit received a few years back as it went through bankruptcy it is really a vibrant city on the rebound If you have not been I highly recommend a visit. While I was in the city I took the opportunity to meet with some of the organizations headquartered in the city. In one meeting I was chatting with a senior VP and the conversation naturally turned to mergers and acquisitions, and inorganic growth. We started talking about what drives successful acquisitions and she immediately brought up culture as a key determinant of success.
She is absolutely right. Culture plays a huge role in the success of an acquisition. The conversation got me thinking about all the other non-financial aspects of an acquisition. So often we focus on the hard numbers, the financial side of the business. But there are a host of “soft” factors that are at least as important as the hard financial aspects of the transaction.
In business buy / sell transactions every deal is unique. Different buyers place different premiums on different soft factors of the business. Using the exact same financials, four different buyers can arrive at four different valuations for the same business. That is so often why valuation is expressed in a range rather than a precise number.
Value also shifts from buyer to buyer depending on the unique business model of the buyer. This holds true across industries. Within the collision industry, for example, the large consolidators have different preferences for an acquisition. Some prefer larger big box locations (i.e. 20,000+ SF) while others prefer more compact locations. Some find lots of value in OEM certifications while others are less excited about certifications. Some prefer to have tightly knit networks in close proximity while others may be willing to go a bit further afield. As a result the relative value will change depending upon how the target business fits into the overall structure of the acquiring business.
Here are six non-financial ways to increase the value of your business.
Brand & Reputation
Warren Buffett has said “It takes 20 years to build a reputation and five minutes to ruin it.” The brand reputation your business carries in the marketplace can have a significant impact on the value of your business. A business with a strong local brand presence often will command a premium relative to a business with a less-developed brand. To increase the value of your business focus on developing a brand around your operations and a culture that matches that brand.
Location / Market
As in many retail businesses physical location is important. But more important is the market. For example, a business that operates in areas that have a growing population tend to be valued at a premium relative to businesses with operations in stagnant or declining population areas. Similarly, businesses with operations in higher socioeconomic areas tend to be valued at a premium relative to businesses operating in lower socioeconomic areas. In general, the larger the potential market a business can sell in to, the more valuable that business becomes.
In the collision industry, total market population size plays a significant role. Currently the large consolidators are operating primarily out of the top 50 MSAs (metropolitan statistical area). While they do have operations outside of the top 50 MSAs it is less likely at this time for these players to aggressively pursue growth in those areas. This can result in a significant advantage to a group pursing an acquisition strategy outside of the major metropolitan markets.
It really is all about the people! So often in acquisitions we focus on the finances and the strategy forgetting that a major benefit of buying a company is retaining the established work force. Companies with experienced management teams will have higher valuations than companies with inexperienced leaders. This is logical when you consider an acquisition from a buyer’s perspective. The best acquisitions are when the buyer can leverage the strength of the existing management team to continue expansion. A business with an inexperienced team, or a business where the owner handles every major decision, is perceived as a much riskier proposition to a potential buyer. Buyers want to know that after the acquisition closes the business can continue to operate effectively without the presence of the previous owner.
I’ve said it before. Hire a manager and fire yourself.
Facility & Equipment
The condition of the facility and equipment has an impact on the value of your business as well. Again, consider this from an outside buyer’s perspective. When considering an acquisition a buyer will not only consider the price they are willing to pay you, but also how much they need to invest in CAPEX, or capital expenditures. CAPEX includes things like buying or upgrading equipment, updating the building (i.e. electrical upgrades, remodeling restrooms, upgrading IT and/or communication networks, etc.) among other items. The less investment a new owner has to put into an existing business post-closing the less of a discount an acquirer will apply to a target’s business.
Workforce and Operational Excellence
An important reason for acquisitions in many industries and especially collision repair is to acquire the workforce in place at the target company. In fact, the existing management team and workforce in place is one of the major drivers of goodwill in an acquisition. Goodwill in a business acquisition is the amount that is paid above the fair value of the tangible assets of the business.
The existing workforce in place presents an interesting conundrum to many business owners. Running a super-efficient lean operation may generate a lot of free cash flow (i.e., the cash that is left over after paying all expenses, debt service and capex). However, there is a point of diminishing returns. If the business is too lean, an acquirer may actually discount the overall value of the business with the expectation they will have to add additional staff to maintain the existing performance of the business.
Potential for Growth
Buyers want to know that when they buy a business there is additional room for growth. A buyer wants to be able to leverage the past performance of a business to drive expansion and growth. In order to pay full value for a business, an acquirer often must be able to recognize some sort of growth catalyst. After all, if a business is operating at peak capacity, there is less incentive to a buyer to pay a premium for the business if it has little chance of making the business better.
Deal metrics are often evaluated both in pre- and post-close measures. For example, an acquirer may be willing to pay a very high multiple (10 x pre-close EBITDA, for example) in the expectation that there will be a significant increase in sales and profit post close. So while the transaction at close may appear to be very richly valued, when taking into account projected performance a rich deal may actually be viewed as quite reasonable (dropping to 3x post-close EBITDA).
We often see this in practice. For example, consider two businesses: one doing $3 million in annual sales out of 6,000 square feet; and a second, doing $3 million in annual sales out of 30,000 square feet. All other things being equal, the 30,000 square foot business will recognize a relative premium to the 6,000 square foot business on each dollar of free cash generated (assuming the buyer believes the additional rent factor of the larger location is reasonable and manageable..
There are many more non-financial ways to increase the value of your business, but these are some of the more common non-financial ways to increase the value of your business that we see in the industry.
I want to help you maximize the value of your business. If you have been approached by a consolidator, or are considering an exit, sale, or family transition, I would be honored to guide you through the process. And if those items are not on your horizon, I’m still grateful to have you as a subscriber. I enjoy talking with others in the industry I am passionate about. Shoot me an email – I read all of them and respond to most.
A special thanks goes out to BASF for hosting me in Detroit last week. Toby, Elijiah, Dereck, Leanne, Michael and Tom – you all organized an awesome event. John and Peter it was great meeting you both face to face. There were many more who helped out as well; I apologize if I missed you. Send me an email if I did.