Selling to a Strategic Buyer

This article  is a continuation from our last two where we identified the three types of buyers: owner operators, strategic buyers, and financial buyers.  The focus here will be on some of the nuances and considerations of selling to a strategic buyer. 

Typically, when we refer to a strategic buyer, we are referencing a company that is already in the industry or on the periphery.  It could be a business that is operating in one geography and wants to expand into another, a company that is looking purchase human capital and new customers and fold them into their existing business, or companies with different products and services, but with customers who utilize the products and services of the target company. 

Strategic buyers are often looking at what additional revenue can be generated from combining the two entities.  This doesn’t refer to the 1+1=2 scenario, but rather the ability to see incremental growth from selling additional products to their customers, raising prices, or removing pricing and margin compression.  A big consideration is also the ability to cut costs.   Low hanging fruit is often the accounting department and HR department, duplicate software licenses, and in some instances, office leases. 

However, this doesn’t mean that the stand alone entity can’t be extremely attractive.  In these instances, buyers may be looking at expanding into a new geography, acquiring talent, or perhaps acquire customers and revenue at a cheaper cost of acquisition than traditional marketing methods. 

There are some key considerations to consider when selling to a strategic buyer.  First are the company’s wages.  An owner may command high margins because the employees are loyal to them while in reality they make a lower wage than possible in the open market.  Upon a change of ownership, the possibility to shop their services may lead to the reality that they can get much better compensation, thus leading to a loss of talent or higher labor cost and lower income for the acquirer.   

A similar issue arises with the company’s pricing.  A company underpricing its services may have many legacy customers, but those customers may not fit into the model of the acquirer.  Of course, price increases at the close have a high probability of causing customer churn. 

Recognizing the above, a company looking to sell to a strategic buyer needs to have a strong understanding of the key industry metrics and will be in a much stronger position to sell at the best price and terms should it match or exceed the industry norm. 

Keep in mind that strategic buyers are typically better capitalized, discerning and know where the bodies are buried in the industry, so they are likely to do deeper diligence and have tighter purchase agreement.   This could include stricter reps and warranties, longer transition period by phasing the owner out over a longer period of time, and including compensation tied to customer retention. 

In summary, strategic buyers are great area to focus when a company has potential revenue and cost synergies, a great team, the owner isn’t quite ready to retire, and the owner wants to participate in the future upside of the business. 

Strategic buyers may not be the best fit when industry metrics are out of line, the business is too small to return an investment after paying the former owner or manager, or the business has challenges that an industry insider would discount considerably.