Approachable steps you can take to prepare for a potential acquisition down the road, and why it’s never a bad idea to take them.
We have all heard at least one story from a friend or former colleague about a negative experience with an acquisition. Sometimes these are even referred to as a “hostile takeover,” where culture was overlooked and employees were seen as an afterthought. In this instance, it is easy to understand why some people would be adverse to the idea of being “acquired.” This unfortunate situation can occur and tends to be more common in acquisitions by much larger AEC firms, but it is certainly not the norm for M&A in architecture and engineering firms. There are lots of employee-focused and high-integrity buyers in this industry, and an acquisition can provide many different benefits for a seller and their staff.
As the labor market has tightened over the course of the last 15-20 years in the AEC industry, firms that want to grow have found it progressively more difficult to do so organically at a consistently high level. This is one of the primary reasons why more and more AEC firm leaders have begun to open their eyes to the advantages of growth through acquisition. Although 2020 provided plenty of curveballs for all of us, many AEC firms emerged rather unscathed and ready for growth in 2021. We could also see this trend emerging prior to the pandemic. According to Zweig Group’s 2019 Principals, Partners, & Owners Report of AEC Firms, 37 percent of respondents indicated that their growth strategy included pursuing a merger or acquisition. This figure, compared to 22 percent in 2018, demonstrates this increased interest. Other significant factors contributing to increased M&A activity include increased interest from investment banks and private equity in the built environment over the past decade, a growing percentage of AEC firm owners that are reaching retirement age, and simply a highly fragmented industry with many small to midsize firms.
These components and others lead 2019 to be one of the biggest years ever for M&A activity in the AEC industry. COVID-19 and 2020 complications aside, early indications are that 2021 is set to be another busy year, and we expect Q2 through Q4 to be especially active. This industry is changing the way that it views growth and that is creating opportunities, either strategic or opportunistic, for both buyers and sellers.
What are you doing to make sure that your firm is in a position to take advantage of these opportunities as they arise? As an advisor with Zweig Group’s Mergers and Acquisitions team, I am often asked a similar question by firm owners: “What can I do to maximize the value of my business?” The truth is that the qualities that make your firm an attractive (and valuable) acquisition can also put you in an advantageous position as a buyer and, more generally, a healthy organization overall. So it is never a bad idea to get your firm “transaction ready.”
Here are a few things you can be doing right now to make sure you are ready to take advantage of an opportunity when it presents itself:
- Continue growing. In addition to the development opportunities it provides for your staff, growth provides a slew of other benefits for a seller. Culture fit is a critical aspect of any acquisition, and buyers often want to see a like-minded approach to growth in the strategy of the seller. Growth also provides the buyer with the ability to make projections for continuing growth. That growth will also lead to a higher EBITDA (earnings before interest taxes depreciation and amortization) projection, which is a common valuation metric in mergers and acquisitions.
- Focus on profitability. This is easier said than done, and could involve making some difficult decisions depending on your situation. There are many different valuation metrics used during an acquisition, but multiples of EBITDA are considered nearly 100 percent of the time at one point or another. Generally speaking, the more profitable you are, the higher your valuation will be. Not only will this give a buyer confidence that your system works, but operating profitably will give your firm more leverage and bargaining power during negotiations.
- Clean up your finances. Good record keeping is not something you can easily go back and fix once an opportunity presents itself. If it is not done properly on an ongoing basis, it is very difficult to reconstruct missing pieces or incomplete information. This includes having diligent accounting procedures, good balance sheets and P&L statements, and removing your personal expenses from the books. Having clean records also allows the due diligence process to move quicker.
- Keep administrative policies current. Some examples would include human resources, software licensing, labor, and overtime policies. These can be a minefield of potential deal-killers if they are not updated regularly.
- Start to understand what your ideal transaction partner would look like. If you were to sell your company, what type of buyer would you ideally want to sell your firm to? What markets and services would they focus on? How big would they be? What type of culture and values would you want them to have? Understanding what you are looking for will not only prevent you from wasting time on “dead-end” conversations, but give you confidence to proceed when you get introduced to the right suitor as well.
- Build a strong successor and second tier of management. As a firm owner, there is no greater leverage in an acquisition than having an internal transition plan in place. If you are not in a position where you need to sell, it forces the buyer to focus more on the benefits the transaction would have for you and your staff. Not to mention that anyone interested in purchasing your firm would be equally as interested in your staff and their abilities when evaluating your firm. This means selling more stock to associates, junior principals, or other valuable employees. It is also a good idea to update your stockholder agreement at least once per year.
John Bray, CM&AA, is an advisor with Zweig Group’s M&A and executive search teams. Contact him at firstname.lastname@example.org.Click here to read this week's issue of The Zweig Letter!