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JOHN BURNETT Chartered Accountant, (C.A.) Licensed REAA 2008
John has been assisting business buyers and sellers continuously since 1982. Prior to 1982, John business background was as a Chartered Accountant with a twenty year corporate business background industry sector: Engineering, Construction and Transport.
John is a Chartered Accountant and holds the prestigious CBI [Certified Business Intermediary] designation from the IBBA [International Business Brokers Association] based in Chicago USA.
John has assisted many sellers and buyers achieve their retirement, investment goals and aspirations. An open mind and a genuine interest in people are essential for success when dealing with individual business owners and buyers together with their professional legal and financial advisers.
Creating Value by Acquisition
Acquisitions can reinforce and change a company direction….principally through synergistic acquisitions. Synergy occurs when capabilities transferred between firms improve a company’s competitive position, its performance and ultimately shareholder value.
For Example:
n Combination benefit can accrue through an increase in purchasing power which will come from the advantage that size itself allows in dealing with suppliers distributors and smaller competitors. Savings accrued can benefit the company’s own client base by way of product enhancement and or more competitive pricing.
n Resource sharing is a goal of acquiring business’s seeking economies of scale.
n Technical and administrative manpower skill transfer: A firm improves its competitive position from acquiring functional skills that enables its own manufacturing, distribution and processing departments to improve overall productivity.
Managerial skill transfer occurs when one firm can acquire a skill set from another resulting in a more competitive environment for the buyer by improving quality and depth of buyers existing managerial infrastructure.
The strategic Acquisition:
If an acquisition does not help realise strategic goals; financial models however sophisticated will not transform a poor strategic fit into a good arrangement.
n A strategic business acquisition can result in a business improving its competitive advantage or alternatively remove a competitive disadvantage. The result may well include a superior distribution system or a unique production capability. A key factor in planning a strategic acquisition is in firstly developing a strategic plan. Without a carefully considered strategic plan, a successful acquisition is unlikely to eventuate.
A Strategic Plan:
A company may seek to retreat from a mature or a perceived declining market. A decision to restructure its current company operation is a management decision in conjunction with management’s plans to build on its existing market share. As examples consider the following strategic decision to acquire a company that will enable the existing business to:
n Enter new geographic markets.
n Probe for new marketing opportunities.
n Create additional opportunity through product improvement and diversification
n Build on existing Managerial skills by introducing additional managerial manpower resource.
The Price Paid
The price paid depends largely on anticipated future earnings, financial advantage and the resulting return to the buyer. The price as calculated is off time based on a multiple of the seller’s EBIT.
Price paid divided by the EBITD is the multiple paid.
Larger companies typically sell for higher multiples because those companies tend to enjoy a stronger market positions, greater management depth, a more diversified base of business, and better access to capital
business growth through acquisition
Increased competition, low inflation and slow growth markets makes acquisitions an attractive means to grow or to even survive in today’s challenging economic environment.
Mergers and acquisitions are ongoing not only in well publicised companies as in: the IT sector, and public utilities, but also in fragmented locally owned businesses, importers, exporters, food manufacturers, industrial products suppliers, service related business, manufacturing and distribution businesses.
As consolidators absorb smaller regional firms, the acquirer enjoys increased market share, acquires additional managerial expertise, enjoys the benefit associated with technical skills transfer, product enhancement and diversification together with efficiencies accrued through combined operations and volume buying all of which ultimately increase the acquiring company’s operational profits and shareholder value.
A brief outline of factors that influence Acquisition Value:
FACTORS INFLUENCING VALUE:
1. The nature and history of the business.
2. The company’s economic outlook.
3. The company’s earning capacity.
4. The company’s goodwill value.
5. The company’s asset value.
BUYER PERSPECTIVE:
The Buyer amongst other matters will consider the following:
Sales: Historic trends
Products: Exclusivity of Supply
Expenses: Actual and forecast
NON FINANCIAL CONSIDERATIONS INCLUDE:
Business type
Business growth
Client retention
Location and facilities
Marketability of product
Desirability of ownership
Competition within the industry
Industry outlook and growth
Note: Whether a buyer uses equity or debt capital to purchase the business the assumption is that funds to acquire the business are borrowed funds and furthermore that the discretionary earnings generated through ownership of the business will be sufficient to provide the incoming owner funds to finance the business activity.
Discretionary Earnings
Discretionary earnings is usually described as gross income less the operating expenses of the business, but prior to interest expense, depreciation, owners salary and owner related non business expense.
For example: non-working family members on wages, non-essential business travel such as overseas holidays, private club subscriptions, luxury travel and expenses that are of an unusual or non-recurring nature.
1) Earnings before Interest, Tax and Depreciation: (E B I T D)
The income earned by the business after allowing a reasonable owner’s salary prior to the funding cost associated with purchasing the business, working capital, depreciation and company tax.
2) Earnings before Interest and Tax: (E B I T)
An appropriate allowance for Depreciation deducted from the EBITD. The amount deducted for depreciation should reflect economic reality in that a reduction in the value apportioned to the fixed assets will accrue over time through operational wear, tear, and obsolescence.
3) Tax Paid Cash Flow:
A provisional estimate of the Tax paid cash surplus generated by the business after payment of company tax at the current provisional company tax rate @ 28 cents in the dollar (E B I T less Company Tax) and prior to cost of financing (interest and loan repayments) associated with purchasing the business.
.Goodwill: (the multiplier)
The Earnings before Interest and Tax: (E B I T) represents the goodwill element of the business acquired. Various tables and charts developed that depict the most common factors considered by buyers of privately owned business.
However, buyers are prepared to pay a premium for business that has a strong synergy with the buyer and their advisors as well as a business and can demonstrate increased sales and profits through both good and weaker economic times.
Common sense would dictate that the multiple selected should reflect the degree of risk and uncertainty associated with the business acquired.
The most likely Buyer:
The current market place for private family owned businesses essentially comprises three types of buyers namely:
Corporate Buyer / Strategic Buyer and Equity Buyer
In any business sale, value enhancement can accrue by identifying and presenting to those buyers who perceive maximum benefits that accrue through business ownership.
The corporate buyer tends to adopt a schooled approach in examination of the financial numbers. Typically, sales will demonstrate an ever increasing upwards trends with little or no peaks and hollows. An established
Managerial infrastructure, documented policies and procedures, documented Client and Suppliers contracts will all appeal.
The strategic buyer focuses on the growth opportunities that will accrue by acquisition of a business that can enhance their company’s competitive advantage.
The Equity buyer is primarily interested in making the numbers work. Continued owners involvement with likely an agreed earn out based on future profits potential strong profit performance planning to hold 3 – 5 years out from possession.
Five Factors that impact Acquisition Value.
It is important to understand the five factors that impacts acquisition values.
Factors that impact value:
n The nature and history of the business.
n The general industrial and economic outlook as it relates to the current business activity.
n The company’s past and current earnings.
n The company’s intangible goodwill value, reputation, staff skill set and existing Client base
n The company’s net asset value.
These five factors reduced to mathematical calculations that offer a range of computation methods that include: Capitalization of Earnings, Excess Earnings, and Discretionary earnings.
The Offer Price:
At the end of the day, Buyers / Sellers tend to negotiate over a price band (upper – lower) rather than a specific price.
One truism often overlooked:
The final price will be as agreed between a willing buyer and a willing seller.
In setting the initial offer price, recognition is given that sellers and specifically their professional advisor will expect to negotiate the final sale price. To allow for that expected round of discussion it is generally recommend that the initial offer price is set somewhat lower than Buyers appraised or perceived value. Adopting this strategy allows the final negotiated sale price as a win win for buyer the seller.
Check on Offer Price:
Note: It is however important to remember in setting the offer price that the mathematical formulas, procedures, trading history, economic forecasts are only tools and procedures to be used to help arrive at an economic range of values for the business.
A common sense approach is to check that the investment required in acquiring the business makes economic sense relative to the expected earnings and or synergistic benefits that the business will accrue to the incoming buyer.
The Business Seller
The private business owner has reasons for responding favourable to buyer interest. Business owners have family and or partners who wish to retire or to be able to focus on a new venture. Other reasons include capital requirements, increasing competition or simple a change in business owner’s interest.
The Business Brokers Role
If business growth by acquisition is in your business plan a professional, Business Broker can design and implement a search program that will work for you and your company.
A Business Broker can Offer Services in the following areas:
n Location of acquisition candidates
n Valuation Opinions
n Packaging the Product
n Negotiating the transaction
In handling this process the professional business broker will work closely with the buyers and seller professional advisors (solicitors and accountants)
The Professional Business Broker will assist in:
n Identifying the ideal candidate.
n Create a candidate profile.
n Lay out an approach that will create the best results.
n Evaluate prospects.
The professional business brokers will approach acquisition candidate that fits the profile in order to determine interest in meeting with a potential buyer.
This process is an extremely delicate procedure and prospective candidates expect and deserve an experienced professional. The approach must be confidential and the prospect must feel comfortable with whom they are dealing with at all times.
Once the dialog is established, the professional business broker will maintain transaction momentum guiding the parties and in doing so create the optimum opportunity towards a buy / sell transaction.
The buyer’s professional team (broker accountants and solicitors) should bring to the table a wide experience in analyses, negotiating and deal structuring. The majority of business owners sell only one business in their life, then as now, is not the ideal time to introduce a party new to the transition process and to be learning from on the job experience.
The majority of buyers and sellers appreciate interacting with professionally advisors and oftentimes the buyers’ job is easier as information is professionally prepared and readily available. In addition, a professional team should have discussed both business and personal considerations, which may impact adversely on the buy / sell transaction if not at first disclosed up-front.
There is a greater likelihood of completing a deal if professionals, experienced in the buy / sell process can work on the preliminaries whilst the business owner’s both buyers and sellers attend to the day to day running of their respective trading enterprises.
The personalities, emotions, goals and plans can and will radically differ. There is a need for the professional team to have the knowledge, experience and character in order to maintain and sustain intense interest between the multiply parties during what at times can be an emotionally, economically and technically rigorous process.
Conclusions
Industries are consolidating not only nationally but also on a global basis. Those companies that lead this consolidation through aggressive acquisitions can create a strong and enduring advantage.
While no one wants to overpay, it is far better to slightly overpay in acquiring a star then to pay book value or less for a business that will never perform to buyer expectation.
What matters is not the price buyer pays but the inherent strengths of the business, market position, growth potential and strategic fit with buyers business.
These are factors to weigh in evaluating any potential acquisition.