Consider Growth Through Merger or Acquisition
Regular Inorganic Growth Applicable to Most Businesses
When it comes to growing your business, many organizations are familiar with the organic growth method that involves winning new customers and business over one at the time. Organic growth can often be accomplished from within through increased output and enhanced sales. However, there is another route to inorganic business growth: mergers & acquisitions (M&A).
Often when business owners hear the term “mergers and acquisitions,” they think these growth strategies are only applicable to very large companies. But that’s not true. A merger or acquisition could be a very suitable strategy for you, given your goals for the future of your business.
Benefits of M&A to Company Management
Merger and acquisition transactions are complicated, but before you cross the bridge, let’s look at some of the benefits your management team can glean from a solid M&A strategy.
- Increased number of customers – Rather than hiring additional salespeople or doubling the size of your marketing budget, you can acquire new customers through M&A activity. It’s important to note that some companies struggle to offer competitive products to customers because of sub-optimal sales. As a result of a smaller customer base, operations may suffer. That being said, start-up companies should look extensively to acquire companies with related products and services. Following this approach, the start-up’s credibility is boosted and new doors open to attract quality capital as a result of increased sales.
- Acquire new talent – Since no two companies are the same, they often have different talents, skills, and outlooks. When you’re looking for a company to partner with, make sure to consider the talents, technologies, and customer experience of the other company. Think about Amazon’s and Ali Baba’s impact on the retail industry. Their growth could have been less if they didn’t have the right talent on their team. If the organization lacks ideas on how to expand and grow, bringing in new talent through M&A can be a great solution.
- Acquire technology/growth acceleration – As your business matures, other companies with different products and services (your competitors) may start taking the main stage and impacting your sales. This is true not only for big businesses but for smaller, family-run operations as well. One way to grow your company is to acquire a similar business that serves customers and leverages technology differently than you do currently. This can be transformational for your business and allows you to have a better succession plan while boosting the value of your business.
- Cut costs and increase output – By merging or acquiring another business, you can cut costs, drive efficiency, and increase output. Sometimes companies focus on the international markets thinking that labor costs should be the main consideration. While labor is a major consideration, you should balance labor considerations with other alternatives like technology, robotic process automation, training, and faster decision making.
- Larger businesses lead to larger multiples – It’s common for small businesses without solid succession plans to depend on a single person to “make it rain” and bring in new customers. This approach hinders your ability to sell the business in the long-term. Organizations with more formalized and properly incentivized management teams could see two to three times the earnings before interest, tax, depreciation, and amortization (EBITDA). If you’re experiencing high growth, you may see as much as five to six times EBITDA. No matter what level of growth the company experiences, it should consider that the larger business with more established operations will lead to a higher multiple. A properly designed M&A strategy can be transformational to your business and lead to a higher valuation.
Tips for Developing an M&A Strategy
If your company is interested in growing through an M&A strategy, focus on the following steps:
- Acquisition strategy – To increase your number of customers or acquire new talent/technology, both companies should have multiple meetings to discuss competition, suppliers, and customers. Each area could have an outsized impact on business and its valuation. The company should have at least 10 targets to ensure an optimal capital model and to avoid M&A risk. Even with the most carefully tailored acquisition strategy, there sometimes needs to be, at the minimum, three to five acquisitions to realize higher M&A value.
- Define acquisition criteria –Cash flow and quality of earnings are often overlooked or under-emphasized criteria. Your management team should hire technical professionals and CPAs that will ask the right questions to determine if management numbers are reasonable. Forecasted financials that are often included in a company’s valuation numbers are not certified by CPAs. As a result, the assumptions used by your management team should be carefully evaluated. Some companies fail to have an effective M&A strategy because the focus is on nearby geographies when the best candidates may be in a different region.
- Candidate search – Companies usually think that the internal process alone could identify potential candidates. If the management team doesn’t have an M&A background, it will not focus on other companies and their valuations. Professionals with an investment banking background are starting with multiple databases, reviewing news information, and searching for candidates based on public and private data in order to obtain your company’s maximum. A skillful M&A professional knows to look for the right candidates and can ask the right questions that will lead to more targets.
- Letter of intent – A letter of intent should have a deposit with a clear timeline to complete the transaction, especially when we are talking about smaller companies. The break-up fee is common in the case of non-performance or when great regulatory hurdles exist.
- Due Diligence – Confirmatory due diligence takes time and resources and takes away from your management team’s day to day responsibilities. Consider outsourcing this function and work on automating the process. Larger companies that are publicly traded will need less due diligence as opposed to private organizations that don’t require as much reporting.
- Closing – The general impression among buyers is that this is the easiest step. Many transactions are renegotiated over and over again, terms change, and the price fluctuates. Your management team should expect that this is the most sensitive part and anticipate buyer’s or seller’s remorse based on new insights that didn’t exist before.
One M&A Deal May Not Be Enough
No matter how prepared or how much can you plan for an acquisition, the best thing you can do is plan to make more than one. M&A strategy should be a lifestyle, a common management practice that is constantly improving by looking at how other industry and non-industry participants are changing the world and your future customer profile. We live in a different world today because we are more interconnected than before and access to information should help us to think more inorganically.