A Strategic Business Buyer Doesn't Mean a Stupid Business Buyer

Financial Buyer “A type of buyer in an acquisition that is primarily interested in a company's return on equity, investment, burden on management and cash flow. To determine this information, a financial buyer will carefully look over a company's financial statements and assets. A financial buyer is typically a long-term investor looking for a solid, well-managed company. Financial buyers rarely make any immediate changes, except in turnaround situations where companies are not currently profitable.” – Investopedia.com

Strategic Buyer: “A type of buyer in an acquisition that has a specific reason for wanting to purchase the company. Strategic buyers look for companies that will create a synergy with their existing businesses.  Because strategic buyers may actually get more value out of an acquisition than the intrinsic value of the company being acquired, strategic buyers will usually be willing to pay a premium price in order to have the deal go through.” – Investopedia.com

This definition of strategic buyer can lead some business owners to think it means a strategic buyer will overlook financial performance.  We had a client last year that unfortunately had his earnings erode to zero.   We were trying to tell him that zero earnings made it very difficult to get him what he wanted for the business.  His consistent and unwavering response was that we should focus on strategic buyers.  Which we did, but it quickly became evident that although the strategics believed they could add some value, they couldn’t add enough to make up for $10 million in sales and zero earnings.

Perhaps a better definition of Financial Buyer and Strategic Buyer would be:

Financial Buyer: (same as above)“A type of buyer in an acquisition that is primarily interested in a company's return on equity, investment, burden on management and cash flow. To determine this information, a financial buyer will carefully look over a company's financial statements and assets. A financial buyer is typically a long-term investor looking for a solid, well-managed company. Financial buyers rarely make any immediate changes, except in turnaround situations where companies are not currently profitable.” –Investopedia.com

Strategic Buyer: “A type of buyer in an acquisition that is primarily interested in a company's return on investment and cash flow. To determine this information, a strategic buyer will carefully look over a company's financial statements and assets.  Strategic buyers look for companies that will create a synergy with their existing businesses which will lead to increased revenue and/or decreased cost in the future.  Because strategic buyers may actually get more value out of an acquisition than the intrinsic value of the company being acquired, strategic buyers may be willing to pay a premium price in order to have the deal go through.” – Ney Grant

I would prefer to use this definition so business owners know that financials and a strategic buyer’s expected return on investment does matter.  Usually they matter a lot. 

I did some contract M&A work for McGraw Hill, a multi-billion dollar company and we had an internal spreadsheet that attempted to capture the synergies of a strategic acquisition.  The synergies were boiled down to increased revenue (either for the target or existing internal revenue) and/or decreased cost (e.g. better margins), and then further down to ROI calculations.  It didn’t come down to a general concept of how great the product was, how nice the founder is, or were the facilities were, it came down to how all those things could generate a return on investment. (Note: It’s a tougher calculation, but another calculation a strategic may make is the reduction of lost sales from not having a specific feature or product.  Although tougher to make, it still boils down to ROI)

We would not show this spreadsheet to business owners.  It did not serve our purpose to say to them, “Look how much money we hope to make off your business”.  In addition, it contained internal cost of capital calculations that the company considered proprietary.  We would use the spreadsheet to justify an acquisition, but when it came down to pricing, we would offer the company the going market price of, say, five times earnings.  It didn’t matter how much we hoped to make and often we were not that confident of the future synergies anyway.  We would always try to acquire at a low but fair price.   The only way we would pay more is if there was competition involved and the fear of loss.  We would increase the price, always keeping an eye on that spreadsheet and the all important ROI number.  

If you get a strategic buyer interested in your business, great.   There are usually some wonderful and exciting conversations about the potential synergies between the two companies. But always remember there is someone on the other side that is focused on the numbers, and what those synergies really mean.

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