Clark’s Corner: It’s a buyer’s market— but buyer beware

Dec 21, 2010

A “gloom and doom” economic outlook is still seen by many in the A/E and environmental business, even after the recent pronouncement that the recession officially ended in June 2009. This offers opportunities— as well as challenges— for buyers and sellers, especially when it comes to small and mid-size firms, where valuation disparities on transactions can be significant. For larger deals, the multiples are more stable and the banks are “open” for business. Why wouldn’t they be with some of them netting fees for transactions as high as 10% to 12%? For smaller deals, raising capital to finance transactions for companies less than $2 million in EBITDA (earnings before interest, taxes, depreciation, and amortization) is a difficult, if not near-impossible, task at best. I have some suggestions for small and mid-size firm buyers that you probably don’t read about and don’t make front-page headlines like those deals of the industry “giants.” If you’re a buyer of small and mid-size firms looking to enter the U.S. market for the first time, or if you’ve been on the sidelines for the past few years, here are my top five tips: 1) Go vertical and look to acquire companies and firms with a majority of revenues in one particular area of specialty or expertise, ideally in a hot market that has been and will continue to be recession proof. Go deeper than the first glance at numbers and talk to clients who have longstanding approval ratings for services provided over the past several years, if not decades. Many ownership groups can reposition themselves and their web sites to appear as having a “health care,” “higher education” or “higher-end” quality focus when they only recently won clients in those market segments. Being the lowest bidder to win client accounts only recently in a hot market is just one example to look out for in this regard. 2) Beware of blue sky projections based off of potentially unsustainable recent results. Do not ignore overall declining trends, despite a recent upswing in the past few months or year. Many sellers will not be able to sustain the same numbers next year that they have put on the board so far in 2010, or even 2009. Predictions for a W-shaped recession might be correct. Buyers who don’t account for this could overpay and become encumbered in debt payments that could lead to ultimate business failure, or losses that may have been avoided upon closer scrutiny. 3) “Who,” then “what,” are important questions to ask (in that order) when evaluating a firm. Does the company have a strong second tier of management? Is the top-tier management team willing to stay in place at least long enough for a realistic transition? What are key new positions that will need to be added or existing ones that will have to be backfilled to ensure the firm’s integrity and growth? What kind of stock or other incentives will be required to keep the company on its positive growth trend or to accelerate recovery if it’s in distress? Is it going to be a good cultural fit, and if not, can it be run successfully as an autonomous business unit? Make sure to ask for a complete and current organizational chart with salary/comps by job function, as well as meetings with second tier and top level management. Get business plans and projections for key company departments and project heads. Many buyers look at past to current employee structures without preparing a good roadmap for the company post-acquisition. If you are looking to raise senior debt or private equity funds to close a deal, this type of information, along with a pro-forma and post-close EBITDA projection, is required. So, why not do it as a strategic cash buyer as well? 4) Cost-outs and add-backs rule the day. If you don’t understand their implications in negotiating an offer in line with “true” adjusted EBITDA, then beware of the pitfalls of broker re-casted financials and unaudited seller earnings reports. Try to get an understanding before a LOI is signed as to where the true EBITDA lies or else a deal can fall through once the due diligence and audited financials are done. This will save you time and thousands of dollars in unnecessary legal and accounting fees. 5) Hire a trusted investment banking advisor to help you with your capital structure needs and to represent you with your acquisitions. Many small shops and boutique firms offer relationship brokering and introductions but will not help you answer key strategic and financial questions such as:
  • How are you going to pay for the acquisition?
  • Are you structuring the transaction to be capital and tax efficient?
  • What are your plans for the asset in five years?
Buying firms in the A/E and environmental industry, when executed properly by using the above tips and with the help of a knowledgeable mergers and acquisitions advisor, can be extremely successful and provide excellent returns for shareholders. There are some great deals to be had for well-managed firms as well as for those in distress. The deals are out there if you know how to find them and have a tried and true process to manage the opportunities and avoid the pitfalls. Jeff Clark is managing director and principal of the M&A team for ZweigWhite. He can be reached at 919-931-9936 or For 12 weekly pages of content like this, subscribe to The Zweig Letter here

About Zweig Group

Zweig Group, three times on the Inc. 500/5000 list, is the industry leader and premiere authority in AEC firm management and marketing, the go-to source for data and research, and the leading provider of customized learning and training. Zweig Group exists to help AEC firms succeed in a complicated and challenging marketplace through services that include: Mergers & Acquisitions, Strategic Planning, Valuation, Executive Search, Board of Director Services, Ownership Transition, Marketing & Branding, and Business Development Training. The firm has offices in Dallas and Fayetteville, Arkansas.