If I Were Buying a Firm Today...

Sep 02, 1996

There is a lot of merger and acquisition activity today. It seems like just about everybody is looking to buy or merge with someone else. We’ve never seen a higher level of interest in acquisitions. Some of the reasons firms are trying to grow through mergers and acquisitions include: Geographic expansion. This is always the top reason cited by buyers. The logic is that it takes a long time for the typical start-up office to get off the ground, so why not buy? Adding new services. Another big reason firms buy other firms is they want something else to sell their existing clients. This way, they cash in on their existing distribution channel and spread out their marketing costs to a larger revenue base. They need people. Some firms buy other companies because they can’t staff up on their own through hiring. By buying another company, they get an immediate capacity boost. Principals want a new challenge. A number of principals in companies that have stagnated, growth-wise, are buying other companies because the process is stimulating to them. They want a new challenge, so they force one on themselves. Minority shareholder CEOs want some real value. The fact is that a number of second or third generation CEOs saw their mentors/predecessors cash out their 25%, 50%, or 100% equity stakes and get a big chunk of money upon retirement. But now, when they look down the road to their own retirement in 10 or 15 years, the only way their 3%, 5% or 10% stakes will be significant is if they can grow the company to a much larger size. Acquisitions are one way to do this. What’s my advice to firms who want to buy? Here’s some of what I have been telling our clients lately: Look for a quick payback— no more than three years. If, after cutting everything that will be cut, applying a reasonable corporate overhead allocation, and paying interest on debt resulting from the acquisition, the payback period for the investment is longer than three years, think hard about moving ahead with the deal. Some of the best deals I’ve seen from a financial viewpoint had paybacks of a year or less. The lower the expected payback period, the more comfortable I am about the risk. Look for firms that don’t have a lot of owners. The more owners you have to deal with, the tougher it will be to close the deal and the more difficulty you’ll have turning things around, if necessary. The more owners there are, the greater the probability for a minority shareholder lawsuit related to the deal. The more owners you have, the greater the likelihood that they’ll all want to participate in management decisions for the parent company. This is not what a buyer wants! Look for firms that are growing. Take two companies, both equal in every way, except that one is growing by 25% per year and one is growing by 3% per year, and I’ll go with the faster-growing of the two every time. Growth equates to success. Growth generates excitement. Growing companies are more valuable because they have a bigger potential for profits than a company with flat revenues. Look at building design and environmental firms as opposed to transportation companies. Transportation is a great market— it has been for 10 years— but I’m worried that it won’t last forever. The other problem is that so many companies have increased their capacity for doing transportation projects that any downturn at all will probably result in vastly increased competition. Last but not least, because transportation has been so hot, lots of buyers went after transportation companies, and that has bid their prices up. Look at Greiner Engineering, Inc. (Irving, TX). It sold for something around 70% of net service revenues, an incredible statistic when you consider industry norms are closer to half of that, and huge companies often sell for some discount due to a lack of marketability. Look at companies that aren’t even in our business. I don’t know why more A/E/P and environmental firms aren’t looking to buy training companies, management consultants, real estate consultants, strategic planning consultants, or software developers. If I were in their shoes, I’d consider it. Do your first deal close to home. This is especially true if you are going into a new business line or new service line. Keep the new people close by so you know what’s going on and can learn from them. You’ll also be more likely to get synergies with your existing operation if you do, in terms of sharing clients or cross-selling services. Get all the painful stuff out of the way as fast as possible. The most successful buyers don’t see a lot of benefit in keeping the acquired firm’s name around, or allowing that firm’s employees to have a different incentive plan, or tolerating non-performers who have been non-performers for years. They change the name, change the policies, change the compensation plan, and clear out the deadwood as fast as possible so they can start functioning as one company as quickly as possible. This is especially appropriate for turnaround situations, a common scenario in an acquisition. Why drag out the pain and get everyone upset? It doesn’t make any sense. The only exceptions could be companies that have better name recognition and reputation than yours, in which case, you really need to investigate why they would consider selling. Your first judgment about their reputation and name recognition could be erroneous. Look at a lot of companies. You’ll make better choices when you do have a choice. If one of your principals comes in all hot and bothered next week with a potential firm for your company to buy, ask yourself what is motivating them to sell? And what’s motivating the principal who is bringing this to you? I prefer to look at many companies simultaneously, and I prescreen those I can’t get real excited about fairly quickly. Choice improves the quality of decision-making— whether we are talking about buying a new car, hiring someone, or acquiring a firm. Acquisitions are happening every day in our industry. Do you feel that your company has “Grandma’s recipe” for how to be successful in our business? Could you apply this formula elsewhere? If so, is it time you found out what opportunities the acquisition market might hold for your firm? What are you going to do to make sure you make a good decision? Originally published 9/02/1996

About Zweig Group

Zweig Group, a four-time Inc. 500/5000 honoree, is the premiere authority in AEC management consulting, the go-to source for industry research, and the leading provider of customized learning and training. Zweig Group specializes in four core consulting areas: Talent, Performance, Growth, and Transition, including innovative solutions in mergers and acquisitions, strategic planning, financial management, ownership transition, executive search, business development, valuation, and more. Zweig Group exists to help AEC firms succeed in a competitive marketplace. The firm has offices in Dallas and Fayetteville, Arkansas.