Business Buyers
KEY TAKEAWAYS
- Learn about different types of business buyers
- Understand how different types of buyers have different approaches and strategies
- Learn how to find buyers
- Understand the role of an investment banker in locating and vetting buyers business risk impacts value
What is business risk?
A business buyer can be an individual, a group of individuals, an institutional investor, a company in your industry or a related industry, or even a competitor.
They each have different characteristics, desires, processes, and financing capabilities. Savvy sellers understand these differences and target them accordingly.
Types of business buyers
Individuals
For smaller businesses (valued at less than $5-10 million), individuals can be a possible buyer. These might be ex-executives who are seeking a career change, an entrepreneur who has already sold a business and might be interested in their next venture, or any other individual who is interested in owning their own business.
High net worth (HNW) individuals
One variation on individual business buyers is individuals who are classified as “high net worth”, meaning a net worth of over $10 million. These individuals have additional financing capacity to purchase businesses (which means they can purchase larger businesses) and may be purchasing multiple companies as a part of their overall investment strategy.
Search fund
Pioneered by Stanford business professor Irv Grossbeck, search funds are usually run by one or possible two recent business school graduates. The fund managers raise an initial financing from investors (usually individuals) of around $200-300 thousand. The managers use these proceeds to conduct a search for a business to purchase. Once they have identified a business to purchase, they will then go back to the same pool of investors to raise the equity capital required for the purchase of the business.
Private equity buyers
Private equity firms are active buyers of businesses valued at over $10 million. Private equity funds come in all sort of different flavors – some focus on smaller acquisitions, while some focus on larger acquisitions. Some are industry focused while others are generalist firms and will buy companies in almost any industry. A private equity fund might have $100 million in equity capital to invest, while others might have over $10 billion. Some funds only buy businesses within a specific geography, while others have a global focus. In addition, they can have different approaches to the companies they purchase – some might be focused on healthy, growing companies, while others focus on turning around troubled businesses. There are thousands of private equity firms in the U.S.
Fundless sponsor private equity firm
Different from a funded private equity firm that has a dedicated fund they have raised from their limited partners (pension funds, insurance companies, endowments, and high net worth individuals), a fundless sponsor private equity firm does not have a dedicated fund from which to provide the required equity capital in their purchases. As a result, for each transaction they wish to complete, they must go out to investors to raise equity capital. They tend to be slower and more risky as a buyer because they cannot commit the equity capital themselves out of their fund.
Family office
Ultra high net worth families (assets over $100 million) sometimes create a family office that will manage their money (investing in both public and private securities). These family offices look like funded private equity firms in a lot of respects, but can have longer exit time horizons because they themselves are the investor (private equity firms have to return capital to their limited partner investors, so their time horizons for holding an investment typically range from 3-7 years).
Strategic buyers
A strategic buyer is another company, typically in the same or a related industry to the seller’s company. Strategic buyers can be large Fortune 500 companies or they can be smaller private companies. Larger companies with well capitalized balance sheets tend to be more reliable buyers because they have committed financing in place (cash on their balance sheet or perhaps an acquisition line of credit that is already in place).
Private equity financed platform company
Similar to a strategic buyer, there are many private companies that have already been acquired by a private equity firm. These companies are called “platform acquisitions” because the private equity firm’s investment strategy is to use the platform company to acquire other companies to execute a “roll-up” or “consolidation” strategy.
Competitor
Also a type of strategic buyer (but with very specific nuances a seller must pay attention to), a competitor is a firm that competes directly or indirectly with the seller. These buyers can be great buyers because they can often pay more than fair market value for a company, but they are very tricky to manage given the potential risks associated with a busted deal (disclosure of the seller’s strategy or confidential information, etc.).
How to attract buyers
Major influences on business buyers – how to attract buyers for your business
Business buyers often have different motivations and reasons for their acquisitions.
Here we explore what specific types of business buyers look for in an acquisition.
Individuals
Individual business buyers are often looking to run the company themselves – in some respects, they are buying themselves a new job. As a result, they might look for companies in industries they have some experience in, or ones they think they might enjoy working in for years to come. They may or may not have a defined time horizon for their own exit plan.
High net worth (HNW) individuals
Most HNW investors are not necessarily looking for a job, so they will often target companies that have talented existing management teams and may or may not have a specific industry focus based on their own experience. HNW investors (unless they are purchasing a company with several other HNW investors, which occasionally happens) tend to do smaller deals (less than $25 million) because their financing capacity will be more limited than other institutional investors.
Search fund
A search fund needs to find a business within a year or two of its inception or else it will need to raise additional funds to complete its search. Search funds are going to look for businesses where the search fund manager or managers will operate the business following closing. However, they will often target companies where the owner stays around for a transition period so the search fund managers can learn the business. Search funds will target businesses in most industries, and because of the limitations in financing, will also typically target smaller transactions (less than $50 million).
Private equity buyers
Private equity funds will generally focus on transaction sizes that correspond to the size of its underlying fund. Larger funds will focus on larger acquisitions, while smaller funds will focus on smaller acquisitions. Private equity firms often look for deals where the owner is going to continue to run the business, but there are other firms who have expertise in finding new management so they can do deals where the owner intends to depart upon closing. Private equity funds span across all industries (some funds might specialize in a particular vertical market, while other funds are generalist in nature). Some funds prefer to invest in companies that are growing rapidly, while others are comfortable managing a turnaround of a troubled business. In short, because of the wide variety in types of private equity firms, the types of investments private equity firms can do are many and varied.
Fundless sponsor private equity firm
Fundless sponsor private equity firms also have a wide variety of industries they target. Because a fundless sponsor must go raise equity capital prior to completing an acquisition, they often target smaller transactions (less than $50 million), but some have done larger deals. They have done deals across almost all industries, and will have similar characteristics to a private equity firm in what they seek.
Family office
Family offices will look very similar to funded private equity firms in terms of what they look for, but they also tend to have much longer time horizons before they need to sell (if they sell at all). As a result, they may be perfectly comfortable with businesses that are not growing as fast but generate a lot of cash flow. Family offices will often develop specific industry focuses based on the prior industry experience of the family.
Strategic buyer
Strategic buyers often have very specific reasons for their interest in a particular company. Unlike financial buyers (like private equity firms or a family office), a strategic buyer will be interested in more than just the potential financial performance of the business going forward. Strategic buyers might be interested in expanding their geographic presence, their set of product and service offers, or they might be interested in simply adding additional personnel resources. When soliciting interest from strategic buyers, it is important to first understand what their strategic intent is so that you can best determine if a deal will be a fit before getting too far down the road.
Private equity financed platform company
A private equity financed platform company is typically looking for smaller acquisitions it can consolidate to make a larger overall business. As a result, these buyers will be looking in the same or a related industry, and might be less concerned about the seller’s management staying on because they have their own management in place.
Competitor
Like a strategic buyer, a competitor is likely looking at an acquisition because it wants to eliminate a competitor and make its own market presence that much stronger. For larger deals between competitors, federal antitrust oversight will play a role in whether a deal can go through (if the Department of Justice determines that a transaction would be anticompetitive, they can raise issues that could prevent a deal from closing).
Financial buyers vs strategic buyers
Financial buyers are investors that are interested in the return they can get from buying a company, while strategic buyers are typically larger companies focused on how the acquisition will support their long-term goals.
Making a choice between a strategic buyer and a financial buyer should be based on the seller’s goals in selling the business.
How do I find buyers for my business?
Unlike the days before the internet, finding buyers today is relatively straightforward. For smaller deals targeting individual investors, there are several online services where a seller can post their business for sale – here buyers can review the information online and then contact the seller to determine if there is mutual interest.
For larger deals where the target buyers will be private equity firms, family offices or strategic buyers, there are several different databases a seller can utilize to find potential buyers. There are databases of private equity firms, family offices, and even strategic buyers. While many of these might be cost-prohibitive for a seller, most investment banks have access to and use these databases to help put bidder lists together.
How do business brokers find buyers?
Business brokers typically manage smaller transactions (less than $10 million), while investment banks manage larger transactions. Business brokers often have a website where they will post their clients’ businesses for sale and they may also utilize any one of the online marketplaces where small businesses are listed for sale. It is not very personal or customized, but most business brokers don’t expect to be paid a monthly retainer like an investment bank – you will get what you pay for.
Investment banks typically develop a customized list of specific buyer targets utilizing the databases they have and their own online research. This process can take 2-4 weeks, but will be a targeted list that the investment bank will use to guide its outreach efforts. Most investment banks are very concerned about confidentiality, so they will not post clients’ businesses on their website or otherwise advertise them for sale. Instead, they will use their research to determine the right parties to contact to determine whether there is interest in acquiring their client’s company.
Where to find buyers for business
If you are looking to find buyers for your business, you could hire a business broker to post your business online, or you could hire an investment banker to develop a customized list of potential buyers and manage your outreach process. Alternatively, and we do not recommend this, you can “self-medicate” and do you own reach-out.
You will not likely find it economic to purchase some of the industry or private equity databases an investment bank might have access to, but you can certainly do your own research online to locate private equity firms or strategic buyers who might have an interest in your company. This is of course very time-consuming, but some owners do elect to go this route as challenging as it might be.
How to attract buyers
Vetting potential business buyers
Once you have identified a list of target buyers and are having initial conversations with them, you will naturally want to determine whether they are a credible buyer or you are wasting your time with them.
The best way to vet a potential buyer is to ask lots of questions and be genuinely curious about their acquisition intent.
First, you will want to quickly ascertain whether a buyer has the financial resources necessary to consummate an acquisition. Buyers who are not relatively transparent about their financing capabilities generally do not have the resources necessary to complete a deal – these buyers are best avoided.
You should also ask the buyer why they are interested in your company, and follow up with probing questions to determine if they are really interested or they are simply window-shopping. You don’t want to waste time with buyers who are not serious.
We use a “Buyer Interview” sheet that we give to clients that has lots of questions to ask buyers about their culture, their experience in acquisitions and integration, their preferred method of interaction, and several other topic areas. Identify which attributes of buyers will be important to you and develop your own list of questions that can help you nail down whether a buyer will be a fit or not.
Finally, it is always helpful to get references from the buyer from other owners who have sold their company to this buyer or other people who know the character of the buyer well. Similar to the work you would complete in a reference call when evaluating a job candidate, buyer reference calls will help you get a better sense for the type of person this buyer is.
How do business buyers make their decisions?
Most buyers follow a common process for making their decision to complete an acquisition. For most qualified buyers, it starts with an acquisition screen. An acquisition screen sets forth a series of parameters or criteria that will help a buyer quickly determine whether a deal is going to be worth spending more time on.
The criteria used in an acquisition screen might include the target company’s size, geography, industry focus, management team dynamics, financial results, growth history, and other factors.
The most focused buyers can quickly tell a seller whether their company is going to be of interest.
Assuming a company is interesting to a buyer, they will sign a nondisclosure agreement and then get additional information about the seller’s company. This information typically consists of a Confidential Information Memorandum which presents the business, financial records, and other important documents necessary for the buyer’s initial evaluation of the business.
If the buyer continues to be interested after its initial review, it will put together an offer letter for the business that details the proposed price and various terms of an acquisition. If the seller and buyer can come to terms, then the buyer will start much deeper due diligence on the seller’s business.
For individual buyers, the decision to close the transaction after due diligence is up to them. For private equity investors, they usually must get approval from their investment committee, which is normally comprised of partners in the private equity firm. For strategic buyers, depending on the size and materiality of the transaction, the transaction might need to be approved by the board of directors, or if it is smaller, the management team might be able to approve the transaction without needing to get board approval.
Before going down the path of due diligence and legal agreement negotiations with a buyer, make sure to ask them about their own internal approval processes so that you know when certain milestones have been reached and can better assess whether the buyer is going to be able to close the transaction with you.
How to sell your business to a competitor
Although we are typically very cautious when approaching a client’s competitors as potential buyers, they can often be a perfect candidate if they are handled with extreme care. Competitors see value not only in the future cash flows of the acquired company; they may also be able to enjoy a better position in the market.
Moreover, competitors may be able to leverage their existing infrastructure to reduce overall administrative costs of the combined entity, allowing them to pay a premium for an acquisition over fair market value.
We typically like to approach competitors only late in the sale process, after we have had a chance to test the rest of the market, primarily because going to a competitor has risks that are more real and significant than with other potential buyers.
For example, if a sale is explored but ultimately does not occur, a competitor now has information about your company that could be very detrimental to your ongoing operations if used inappropriately. Moreover, although everyone reviewing your company and its records should be bound by a signed confidentiality agreement, it is no secret that on occasion leaks occur. This could be very challenging for your company if word of an acquisition leaked to your employees, customers, or suppliers. As a result, we typically recommend going to competitors only after other alternatives have been explored first.
Finding buyers for your business – developing the right buyer outreach plan
In short, the process for identifying, soliciting, and generating interest from potential bidders, just as with the parts of the go-to-market process, needs to be carefully planned, executed with discipline, and communicated frequently to you as the client.
This part of the process is the riskiest in terms of potential confidentiality breaches, so make sure it is appropriately discriminating and well managed by professionals who have done it before.
Merger and acquisition consulting built for entrepreneurs
If you are considering buying or selling a company and have questions about the process or how an investment bank might be able to assist, please feel free to contact us or reach out to chris@classvipartners.com personally and we will discuss your goals and objectives and the tools we have to assist you.
If you’d like to learn more about how prepared your business currently is for a sale, click the red banner above to take our CoPilot Assessment. CoPilot will help you identify what specific risks your business has that decrease company value and reduce your certainty of close. The assessment identifies over 90 different types of potential risks your company could have that will make your business less valuable in the eyes of an investor. Get the test ahead of time and build value today with CoPilot.