IBA as the oldest business brokerage firm serving the manufacturing, distribution, and industrial business sale marketplaces in the Pacific Northwest is often party to supply channel information that can have a short or long horizon impact on the business model of one of the privately held companies or family businesses we are representing for sale. It is our job as a professional mergers & acquisitions intermediary firm to appropriately incorporate that information into our sales presentation in the creation of an environment of “full disclosure” to potential buyers in an effort to facilitate a “win-win” transaction and/or our professional valuation of the business. Failure to incorporate the information can result in future litigation between the parties (A negative for everyone, including the intermediary firm) and/or a wrong valuation of the business resulting in either the buyer acquiring the business at a value price to the detriment of the seller or the buyer overpaying for the business and potentially experiencing future debt service issues due to diminished future cash flow.
The following are three examples of supply channel issues that can impact privately held companies and family businesses positively or detrimentally that IBA has experienced as a firm:
Suppliers Underestimate Market Demand for their Products
Individual components are the foundation of manufacturing whether a company is manufacturing salsa, where tomatoes & peppers are critically elements, or desktop computers, where processors are primary building blocks. In 2018, Intel underestimated the market demand for processors for desktop computers as conveyed in this open letter from Bob Swan, Intel’s interim CEO at the end of September (https://newsroom.intel.com/news-releases/supply-update/). In summary, it is anticipated that growth will occur in the PC total addressable market (TAM) for the first time this year since 2011, driven by strong demand for commercial unit upgrades and gaming systems, but Intel has a backlog of orders to support that product demand that it cannot satisfy in a timely manner. This situation has created opportunities and challenges for Original Equipment Manufacturers (OEM’s) in this segment of the technology space.
Looking at it from a mergers & acquisitions perspective, three things are occurring that can impact transactions and future valuations.
- Companies that have sufficient inventory of processors are able to satisfy demand in a timely manner, often at better margins than would be normally achieved and quicker than competition. Short term profits and market share can both be increased for a company in this situation.
- Companies with lower inventory levels have the potential to lose customers and/or sell product at lower margins after being forced to pay premiums for product on the secondary market.
- Revenue opportunities are pushed forward into late 2018 and early 2019.
This shortage of supply situation will pass, as Mr. Swan conveys in his letter, Intel is investing capital and building infrastructure to remedy the situation. However, it is a situation that parties involved in the sale or purchase of a relevant business should discuss whether the transaction is scheduled for completion in late 2018, early 2019, or 2020 when 2018 financials are reviewed to value the business or during due diligence.
An “Act of God” Disrupts a Marketplace
An entrepreneur can be doing everything right as a business owner and have an “act of god” throw them a curve ball. This is what occurred in the heating & air conditioning industry this summer when a tornado destroyed a Lennox manufacturing plant in Iowa (https://www.desmoinesregister.com/story/money/business/2018/08/22/lennox-international-expecting-100-million-lost-revenue-because-marshalltown-iowa-tornado/1059291002/). Lennox is a quality brand of heating & air conditioning products. It is also the preferred brand offered by Costco to its customers with an attractive set of incentives. The tornado created a shortage of products in the marketplace. As a business owner selling and installing HVAC units this created opportunities & challenges. If a business sold alterative brands (e.g., Carrier, York, etc.) that could be substituted for Lennox products, short term revenues could be increased and market share gained. If a business could not substitute alternative brands, sales and employees could be lost to competition that could satisfy the demand. If Costco incentives, brand, and/or customer loyalty are high enough, revenues can be pushed forward in the pipeline past the supply channel interruption.
This shortage of supply situation will likely be a footnote in history next summer. Lennox, Costco, and the HVAC companies serving the Pacific Northwest will all move forward in their best interest. However, it is a situation that parties involved in the sale or purchase of a relevant business should discuss whether the transaction is scheduled for completion in late 2018, early 2019, or 2020 when 2018 financials are reviewed to value the business or during due diligence.
An “Act of God” Diminishes Product Quality
Anyone who has long term involvement in the Washington wine industry from owners of vineyards and/or wineries to mergers & acquisitions professionals remembers the freeze of 2004 and how it impacted winery production and quality. Washington would not be where it is today as a wine production state, if the industry did not successfully “weather that storm” through resourcefulness and pulling together. The resiliency of entrepreneurs in the industry can be cast in a positive light over a decade after the wines produced in 2004 were brought to market. However, as a wine drinker and mergers & acquisitions professional I can also convey that the vintages produced that year were generally subpar. This created a mergers & acquisitions obstacle to business sales in 2007 & 2008, when the reds produced in 2004 were being brought to market, evaluated, and judged. Business buyers desire to purchase inventory that they can turn into revenue at reasonable profit margins. They do not wish to purchase prior ownership’s bad business decisions or poor quality products. Business sellers wish to receive a “fair” value for their inventory at time of sale. The valuation and negotiation of the transfer of inventory in a business sale, especially in business models like wineries, can be a sophisticated, nuanced process requiring knowledge and experience. A professionally facilitated “win-win” transaction will properly value the inventory asset and mitigate the risk associated with post transaction liability in that arena.
Entrepreneurship is the ultimate competitive sport. The ability, knowledge, and experience of a business owner is demonstrated when issues beyond their control are injected into their business model. Every situation creates opportunities & challenges. Business valuation and the sale of privately held companies & family businesses are sophisticated, nuanced processes requiring knowledge, experience, and a high professional skill set. If you want to insure that all relevant knowledge & market dynamics are incorporated into the sale process, it is my recommendation you engage appropriate professionals with the ability to look backward, forward, and evaluate historical information from a position of knowledge and experience.
IBA, the Pacific Northwest’s premier business brokerage firm since 1975, is available as an information resource to the media, business brokerage, and mergers & acquisitions community on subjects relevant to the purchase & sale of privately held companies and family owned businesses. IBA is recognized as one of the best business brokerage firms in the nation based on its long track record of successfully negotiating “win-win” business sale transactions in environments of full disclosure employing “best practices”.