Why buy another company? Because it is an excellent method of accelerating the growth of your company and enhancing the value of your operations.
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Ninety-five percent or more of all companies in the U.S. are run for only one reason: to produce personal compensation for their owners. Good examples are a convenience store owned and operated by a husband and wife team or a small fabrication shop managed by its owner. I call those “lifestyle” companies. If the earnings that accrue to the owners can provide them with what they consider a comfortable lifestyle, that’s all they ask.
Five percent or less, perhaps substantially less, of all companies in the U.S. are run to generate net worth, to build value for their owners. Those five percent, as they execute their growth plans, end up acquiring many of the other ninety-five percent. If you haven’t already, you should graduate from the ninety-five percent category and join the five percent of rapidly growing, profitable companies that are building value as well as increasing the personal compensation for their owners and executives.
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Most company owners don’t understand that the operating objectives and methods for maximizing personal compensation and for building net worth are not mutually exclusive. Managing a company to increase its book value can also result in significant increases in personal compensation, but the management techniques and the corporate goals used to reach those objectives are usually quite different.
For the consideration of any acquisition, let’s start with the basics. For either a single corporate purchase or a continuous acquisition program, there are only three absolutely required elements:
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1. There must be something to buy.
That might sound ridiculous, but if you want to move into the Memphis market and that city has only two competitors in your industry, if they both say “no”, there’s nothing to buy. If there are 35 candidates, as there were for the specialty plastering company search I did in Atlanta, your chances of completing a purchase are excellent. Of course, if a consolidation in your industry has been going on for years, there may be little left to buy or the prices may be uneconomically high.
The easiest acquisitions are done in a fragmented industry with a large number of relatively small participants. The exception to that rule is the purchase of a single competitor or target that you know to be available. That definitely gives you something to buy.
2. You must be able to manage what you buy.
Operating a remote facility or several subsidiaries is quite different from the management of a single location. For a successful acquisition, your company should have sufficient management depth and talent to not only assimilate the acquisition but also assure its continued profitability as a part of your operation. In addition to people, this management requirement also relates to the financial and reporting systems necessary to monitor, control, and react to changing conditions at multiple facilities.
This does not mean, however, that all of the desired people and systems must be in place prior to the closing. I’ve structured acquisitions where part of the needed management talent was in the acquired operation rather than the parent. I’ve also developed reporting and control systems appropriate to an acquisition as a part of the transition plan rather than having those systems already in place.
3. You must be able to pay for what you buy.
The price, payment terms, and subsequent cash flow of an acquisition will have an enormous impact on how your company might finance its purchase. You will, however, need resources sufficient not only to close the transaction but also to make necessary working capital and other contributions to the acquired company’s operations and future growth.
In determining how much you can afford to pay, and therefore an appropriate target size, you should carefully assess your company’s financial strength and your appetite for risk. Add to those a thorough evaluation of the historical financial results of the target company. Then use those to develop pro forma statements showing the past results with adjustments made as if the company had been owned by yours as a corporate parent.
Based on these historical and pro forma financials, you can then develop projections factoring in the acquisition financing and its terms. The best acquisition will largely pay for itself from the target company’s own earnings. Properly structured, this can often be done and still meet the price requirements of the seller.
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In any acquisition, either a known target or one from a search in a new market area, look for those three elements. If they’re all in place, your external expansion plans through acquisition are likely to be successful.