Thousands of individuals, existing manufacturing companies, private equities and family offices are all hunting for the same thing – an enduringly profitable manufacturing business. In this article, I’ll share an inside secret to finding that perfect manufacturing acquisition and how to beat the competition.
What Most Buyers Say They’re Looking For
As an M&A professional specializing in the sale of manufacturing companies nationally, my office receives hundreds of inquiries each month from people in the above categories trying to find that perfect business for sale.
Interestingly, their calls and emails all sound the same. Here’s what they typically say:
- We’re different than other acquirers
- We buy to build and hold
- We want a company generating between $1M to $5M in EBITDA
- We like strong gross margins
- We like companies with recurring revenue
- We don’t like heavy sector or customer concentration
- We want a company with standard operating procedures in place
- There should be strong managers in place
- We prefer that the acquisition target has reviewed or audited financials.
The more of the above qualities a manufacturing company has, the more competition there is for the purchase. Seriously, when all the above is in place, I can sell the company to anybody. So, of the hundreds of people who reach out every month to find the dream acquisition, why should I pick you? Oh wait, I forgot, YOU’RE different.
I hate to break it to you, but you’re not that different. Your competition is saying the same thing to me, my staff, and every other M&A professional throughout the nation. So how does one find an enduringly profitable manufacturing business and be lucky enough to beat the competition?
Many Buyers Overlook These Companies
Lower or micro middle-market manufacturing companies at this juncture in history are mostly founder-led or family-run. Many potential acquirers seek companies in the upper end of the $1M-$5M EBITDA range because they think the other qualifications they seek don’t exist in the smaller companies. That’s simply not true. We’ve sold companies in the lower range who had incredible systems in place, a deep bench of qualified managers, skilled workers, healthy margins, sales in an upward trajectory, and little to no dependence on the founder or Seller.
Just as there is a commonality among buyers, there’s a commonality in certain characteristics of family-run manufacturing companies. Most do not have reviewed or audited financials. This is especially so with companies that don’t have debt on the books; there’s no one but themselves to answer to, so why go through the expense? Perhaps they should consider reviewed or audited financials in preparation for sale, but here’s a little statistical nugget. Most retiring manufacturers don’t spend a lot of time planning for their exit. This has been evidenced in the last few years of the quarterly Market Pulse Report.
Diamonds In The Rough Require a Little Digging
This article is sparked by my recent conversation with the founder of a recently-formed private equity. Ted asked what I would recommend and how to deal with this issue. Digging through an unaudited or unreviewed financial statement is time-consuming and costly. Here was my advice. Before you disagree with what I’m going to say, hear the complete explanation. My advice to Ted was to view the exercise as the cost of doing business. Is that nuts? I don’t think so, here’s why. You can easily vet on all the other fundamentals without spending a lot of time or money. In that process, you’ll start to see flaws. If after considering the flaws the basics are still good, keep moving forward, because you have likely found an enduringly profitable manufacturing business.
Most of your competition for the acquisition won’t go through the above process because they only want what’s easy. “Easy street” has tons of competition. The golden nuggets with huge growth potential sometimes require a little more work. But sometimes the “diamond-in-the-rough” companies are the ones that can easily double, triple and quadruple in size very quickly. I’m not kidding; we’ve seen it.
Finding The Diamond Dust
I get that you don’t want to spend money chasing nonsense, but there are ways to mitigate the downside. When you find an intermediary who will shoot it straight and point to the potential flaws upfront, you might be able to determine if the acquisition is worth pursuing quickly.
If the Seller isn’t correctly dealing with inventory or labor in their cost of goods sold, making it appear that they have 75% gross margins, but when done correctly, the real gross margin is 50%, do you really care? Isn’t 50% still amazing? That’s a real-life example, by the way. Some of the top PE firms in the country passed up the acquisition because they didn’t want to take a deeper dive. But a true and consistent 50% gross margin is hard to find.
So, the inside secret to finding an enduringly profitable manufacturing business is to understand that those in the lower middle market often don’t have perfect financials.
Consider vetting for the following:
- Sales in an upward trajectory
- Strong and consistent EBITDA
- Low customer concentration
- Certifications (AS-9100)
- Documented SOPs
- Strong managers in place
- Lack of dependence on the shareholders
- Lean manufacturing principles in operation
- Strong customer relationships spanning many years
Most of this can be done before submitting a Letter of Intent and without spending a lot of money. If you like what you see in each category, why walk away if the financials are not audited? In the process of vetting for the above criteria, you’ll know a lot about the company and the character of the Sellers. If all is positive, the cost of doing more in-depth diligence on the financials makes sense.
To find an enduringly profitable manufacturing business, you must do what your competition is unwilling to do. If all you’re doing is searching for companies with perfect criteria in all areas, you’ll eventually find what you’re looking for, but you’ll have tons of competition for the acquisition.
Here’s another inside secret as to how small manufacturing business owners are vetting you as a buyer. If you’re telling the Seller that you are different because you don’t “flip” the purchase but rather buy for the long term, they expect you to pay a fair price. Anyone can offer a bargain-basement price, and those who are not seeking a longer-term investment typically do. Family-owned manufacturing companies really care about who they’re selling to. Everyone coming to their door is saying the same thing. Sellers are continually looking for evidence of your character and that you do have a buy, build, and hold strategy.
Enduringly profitable manufacturing businesses do exist, but they’re usually not located on “Easy Street.”
We strive to find only the best manufacturing companies whose founder is ready to exit. Let us know what your criteria for an ideal acquisition are here.